2013 Prediction - The Year for Alternatives

by Wayne Ferbert on February 26th, 2013

The end of February is not exactly the popular time to make predictions for the coming year. That is much more popular to do back when everyone was making new years resolutions and the gym was crowded every day!
But we are different at Buy & Hedge so I thought we’d wait a little bit and make our predictions after every one else – so we’d have more of your attention. Plus, we’d have an extra 8 weeks of market data to consider in our predictions.
So here is my first prediction for 2013: the Alternatives asset class is going to have its biggest asset inflow ever in 2013. This asset class has already been popular in the last two decades. In my opinion, the real driver of fund flows to this asset class in 2013 is the problems with the two most popular asset classes: stocks and bonds.
Stocks have had a great 500-day run – but almost every analyst on earth believes that the valuations have gotten ahead of the true earnings power of the companies that make the earnings. There are more talking heads discussing the bear case than I have seen in some time. People really want to take profits and, in general, the stock market appears top heavy.
That assessment could be wrong – but without a doubt, many investors are walking in to their investment advisor office with concerns about the market taking back their 500-day gains. New money is not exactly dying to go in to the market.
As for the 2nd largest asset class, bonds carry significant interest rate risk. They have had an amazing multi-year run up as interest rates have steadily dropped to historical lows. Most investors believe the bond market is much closer to its top than its bottom. Not a lot of new money is flowing to the fixed income space. While the Fed is doing its best to keep rates perpetually low, most pundits still believe the turn in rates is finally a near-term event (ie, as in less than 18 months away).
So, if you had cash to put to work, what would you do with it right now? I am confident the Wall Street machine and your local advisor are going to be filling their quiver with arrows called: Alternative strategies. The asset class known as alternatives is a rather big catch all. After fixed income, stocks, cash, real estate, and commodities, the alternatives asset class pretty much acts as a catch all for everything else.
What are the typical investments that fall under this asset class: Private equity, venture capital, non-correlated trading strategies, and hedge funds. One of the popular strategies in 2012 was Absolute Return strategies. According to Morningstar, 60 new Absolute Return mutual funds launched in 2012. That is mutual funds – not hedge funds. Many more hedge funds launched.
The Absolute Return strategies seek out a return regardless of the overall market index performance. Market Neutral strategies are similar. These strategies all attempt to generate returns that are not correlated strongly to the markets overall.
I expect these strategies to be popular with advisors in 2013. Advisors will need a solution for the client that is skittish about the markets at these levels but understands that interest rates do not set up well for long-term entry to fixed income at these current levels.
So, if your advisor comes along and touts one of these strategies that is built to make you returns regardless of the market direction, you need to ask a few questions to make sure the fit is right.
First, how does this strategy fit in with the overall portfolio allocation you have in place today? Is it complementary? Is it truly un-correlated? Is its purpose to be un-correlated to your core portfolio?
Second, regardless of what your advisor says, alternative strategies are not core strategies. They are meant to be complementary and play a supporting role. So, make sure your allocation fits the description of “supporting role”.
Third, examine the fees carefully. Typically, these strategies are transaction heavy and involve high fees because the management is very hands on. Make sure the fees look reasonable given the expected returns and historical returns.
Fourth, only invest in a fund or strategy that offers liquidity and easy exit at your command. If the strategy is not liquid or does not permit you to exit on short notice without a penalty, then find a different strategy. There are enough good strategies out there that don’t have these kinds of hurdles.
So, looking forward at 2013, prepare to be pitched some Alternative asset class strategies. It is a near certainty that your advisor is going to pitch you some!

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