Stock markets are soaring, but there is a case to be made for alternatives
Martin Pelletier, Financial Post: Alternatives now constitute 9.1% of high-net-worth client portfolios
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As the broader S&P 500 continues to soar, gaining more than 6.5 per cent already this year, it’s pulling up other markets toward new highs, but here’s the dilemma: those sitting on excess cash may wonder whether now is the right time to deploy those dollars.
After all, near-term cash investments still yield around five per cent interest and some have also started exploring alternative assets that may not have the same kinds of ups and downs as the public markets, including:
- Hedge funds: including market-neutral, event-driven, options trading, relative value arbitrage and multi-strategy funds.
- Private equity and debt: investments in privately held companies or debt instruments.
- Venture capital: funding early-stage startups.
- Real assets such as infrastructure and real estate, and commodities like gold and oil.
Last week, I had the privilege of moderating a panel discussion at the Canadian Association of Alternative Strategies & Assets’ annual Wealth Managers’ Forum Conference on this very topic. Most of the advisers I surveyed in the room indicated they had allocated five per cent to 10 per cent of their portfolios to alternatives.
This might be higher than the Canadian average, but we anticipate a similar trend of growing interest in the United States. Alternatives now constitute 9.1 per cent of high-net-worth client portfolios, up from 7.7 per cent in 2020, according to a recent report by Cerulli Associates.
Currently, our tactical risk-managed balanced strategy allocates approximately five per cent to alternatives. However, with additional new cash inflows, we’re considering boosting this allocation.
One area that has piqued our interest is the infrastructure space, which encompasses three key themes: digital infrastructure, reshoring/manufacturing and the energy transition.
With the rapid growth of artificial intelligence, more and more companies are embracing digitalization, seeking to enhance efficiency, connectivity, and resilience. For example, investments in digital technologies by energy companies have surged in recent years, with global spending on digital electricity infrastructure and software growing by more than 50 per cent since 2015, according to the U.S. Energy Information Administration.
The trend toward reshoring manufacturing is also gaining momentum, especially given the ongoing challenges with China since 2020. In the U.S., construction spending on manufacturing facilities reached a record high in 2022.
Large U.S. tech companies also recognize the importance of a secure energy supply, transportation networks, utility services and high-speed internet when deciding where to build new plants. These investments boost economic growth and benefit previously overlooked rural areas. New facilities are cropping up in regions that were once off the radar, creating fresh new markets for infrastructure investors to participate in.
In the past, the energy-transition segment of the market may have yielded lower returns, but it’s essential to consider the context. These investments were made five to 10 years ago during a period when interest rates were significantly lower and capital was readily available, bidding up the demand for these investments and pushing down the returns being offered.
Fortunately, the current environment is much different, with interest rates still high and capital tough to come by, making it a less competitive environment for investors and, with it, quite favourable longer-term economics.
All these types of investments require a long-term commitment, often locking up capital for a decade or more. Thorough due diligence, guided by your adviser, is crucial in identifying the right opportunities and management teams to oversee and deploy this capital. Your adviser might also be able to find more liquid options for investing in this space.
We haven’t got into the private-debt side as this component of our portfolios is geared more for growth than income. For income, we use structured notes, which serve as a quasi-alternative asset class and offer a compelling return-to-risk profile with yields ranging from seven per cent to 10 per cent. Our portfolio allocates an average of 35 per cent to this segment.
The investment landscape has shifted and public markets are setting new highs, but this could be a good time to review other opportunities out there such as the alternatives market. By staying informed and strategically allocating capital, investors can effectively navigate this dynamic environment.
Martin Pelletier, CFA, is a senior portfolio manager at Wellington-Altus Private Counsel Inc, operating as TriVest Wealth Counsel, a private client and institutional investment firm specializing in discretionary risk-managed portfolios, investment audit/oversight and advanced tax, estate and wealth planning.
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