Interest in alternatives is growing. In the US, ultra-high-net-worth portfolios have exposure of between 37 to 52 per cent to alternative assets, but here in Australia, we typically see exposure of 20 to 30 per cent to alternatives. Why the difference?
Before I delve into this, it is important to note that when we talk about alternatives, we need to not only talk about alternative investments, but also traditional investments held in alternative structures. From a definitional perspective, each family office or investor has a different view on what an alternative asset is and how to classify them. Today’s world demands flexibility and the recognition that decisions around assets and classifications of those assets should be owned by the portfolio constructors – not gatekeepers, portfolio administrators, or any other third party.
At a high level, there are probably two key factors that account for much of the relative underuse of alternatives in Australian portfolios: accessibility and ‘artificial’ constraints.
To invest successfully, family offices need an unencumbered investment process that is free to consider, analyse and access their entire desired investment universe. Investment decisions are too often unnecessarily constrained by non-market-related factors or ‘artificial constraints’. We see some high-net-worth individuals (HNWI) and private client businesses shy away from certain structures such as investments with capital calls because of the administrative burden of trying to manage, administer and report on these alongside traditional assets.
The bull market is over. It is now time to be making well-informed portfolio construction decisions and to have flexibility and efficiency to action those investment decisions no matter what they are. To achieve this, there is of course a need for data and information to be both in-depth, which allows for precise decisioning, as well as wholistic to enable whole of portfolio decisions and consolidated reporting. Having the capability to administer, manage and report on alternative investments in the same way as the rest of your portfolio allows for more informed decision making around cash flows and asset allocation decisions as well as allowing for other functions such as compliance, risk, and tax to be fulfilled more efficiently and effectively.
Ultimately, if something is too hard to administer and report on, then the efficiency to return ratio doesn’t add up and it becomes too hard to invest in. If it's hard to hold as a direct investment, HNWI prefer to steer clear.
Accessibility – the investment game changer
The realisation that you no longer need to rely on traditional investment product manufacturing providers when you have an unconstrained administration environment and investment universe is a game-changer. We are seeing the traditional investment value chain being flipped on its head and that many of these alternative investment propositions are now being driven from the bottom-up by family offices and private client businesses.
Accessibility is a key theme in this respect. To put this into context, access to some investments and investment capabilities has, in the past, been limited to large institutional investors. But this is changing rapidly and these capabilities and investment propositions are well within the reach of family offices and private client businesses.
One of the trends that we’ve been noticing is an increasing desire by private client businesses and family offices to access and harness capabilities to manufacture investment propositions in conjunction with specialist partners.
Over the last few years, we have seen a real hunt for yield driving the popularity of alternatives and the proliferation of debt capital market and commercial/industrial property syndication (both capital and debt).
Now, with surging inflation and rising interest rates driving a simultaneous decline in most asset classes, investors of all shapes and sizes are pivoting their usage of alternatives to risk management.
In addition to seeing portfolios moving to more defensive instruments such as floating-rate notes and market neutral hedge funds, we are also seeing increased interest in structured investments, which are at par with ETFs in terms of having a global market size of circa US$10 trillion.
Don’t leave out digital assets
With the artificial boundaries and accessibility issues out of the way, the conversation can turn to the role of alternatives in portfolios. Clearly, their role as flexible tools to solve risk and return problems is well established. Another role is to meet the varying appetites and tastes of investors old and young. This is especially important in the wealth transfer context where younger generations, who are the ultimate ‘heirs’ of their family’s wealth, might have more of an interest in digital assets like cryptocurrencies. Family offices and private client businesses don’t necessarily need to have an investment view on these types of assets, but to remain relevant and be able to facilitate consolidated reporting across a family’s entire wealth, all asset types need to be catered for.
While crypto is still considered a fringe alternative asset (of the $10 billion we administer for HNWI, less than 0.2 per cent is held in crypto-assets) other asset classes such as private equity are increasingly a long-term component of many portfolios. Five years ago, many HNWI would have looked to small and mid-cap listed companies for exposure to high-growth equity plays. However, with the burgeoning accessibility of venture capital and private equity, many of the companies that would have previously listed to access growth capital no longer need to do so and are remaining private. Because of this, we are increasingly seeing HNWI achieving their exposure through funds and also taking advantage of co-investment opportunities that the more progressive private equity companies are providing to their clients.
How can technology help?
The proliferation of alternative asset marketplaces is helping to solve the accessibility issue but at the same time, it is exacerbating the problem of data being siloed. Investors need to bring all their data together to make decisions on the portfolio as a whole, rather than dealing with the composite parts on a stand-alone basis.
This is where technology needs to come into play. In that context, the role of a portfolio administration and reporting service is to remove the artificial barriers around investing and portfolio construction and facilitate information flow and partnerships. In basic terms, this means that the more tech can assist here, the easier it is for the investment managers and the portfolio decision makers to focus on what they do best.
However, it is important to note that while tech is a critical enabler in aggregating all portfolio data and opening up the investible universe for investors and their advisors, it is only a part of the solution. The world of alternatives is so broad and relationships and networks so important that tech alone is never going to be the answer.
Mark Papendieck, chief revenue officer, Integrated Portfolio Solutions