Investment Strategy

Alternatives: Do you want to invest? Here's how to start.

Apr 04, 2022

More and more people are now looking to add alternative investments to their portfolios—and it’s easy to see why.

It’s increasingly obvious to us that, alone, publicly traded stocks and bonds may not provide the results investors seek. At the same time, individuals are gaining greater access to private markets that may help them amplify returns and diversify holdings. 

Unfortunately, why to invest in alternatives is far more obvious than how to invest in them. Incorporating alternatives into portfolios can be challenging for even the most experienced institutional investors.

The alternatives universe has become so broad, offering an enormous array of asset classes, styles, combinations, frameworks, models and vehicles. Indeed, there are now more than 4,000 private investment funds and 9,000+ hedge funds alone—and performance can vary widely.1

We have decades of experience helping our clients navigate the complexity of alternatives to create meaningful portfolios that help meet their goals. Here are some key ideas to help you get started. 

Our recommended approach to investing in alternatives 

We believe the wisest way to invest in alternatives is to:

  • Start by articulating the goals you have for your portfolio
  • Assess how much illiquidity you’re comfortable with
  • Plan to invest over multiple years
  • Build your diversified portfolio—with our assistance (or we can do it for you)


Your objectives

The first step is always to determine what job you would like the alternative investment to do for you. So, what is your objective: Portfolio diversification? Mitigating volatility? Generating higher yield? Inflation protection? Return enhancement? All of the above?

Your objectives might make the choice of alternative investments clear, as some alternatives have a distinct, primary function in a portfolio and others have multiple functions. For example, private equity may enhance returns; real estate can help reduce volatility and provide inflation protection. 

This table shows the four major asset classes within alternatives and the objectives they may be able to help you achieve. Hedge Funds and Real Assets can serve as diversifiers within a portfolio. Private Credit and Private Equity can serve as return enhancers within a portfolio. Hedge funds are available in various strategies including long/short investing in public markets. Real asset strategies encompasses private investments in real estate, transportation and infrastructure. Private credit strategies provide borrowers with capital in various forms. Private Equity invests in private companies. Hedge funds, real assets, private credit, and private equity may help to diversify a portfolio. Hedge funds and real assets may help mitigate volatility. Real assets and private credit may help provide yield. Hedge funds, real assets, and private credit may help to provide inflation protection. Private credit and private equity may potentially enhance returns.

However, our view is that most investors are likely to benefit from a diversified alternatives portfolio (here, the sum of the parts can often be greater than the whole). 

Your tolerance for illiquidity

Alternatives are by definition less liquid than public market investments; alternatives investors trade liquidity for return potential.

Unfortunately, fear of illiquidity may be keeping some from reaping the potential benefits of alternatives. They  may not realize that a private investor’s commitment is phased in over time—and returns typically come back over time. In other words, your money is not gone at all once nor completely tied up for the length of the investment.  

Some private bank clients are now typically allocating 15% to 30% of their overall portfolio to alternatives. But how much might be right for you depends entirely on your goals.

For example, clients who are investing primarily for future generations and don’t need much current liquidity might allocate even more. We see some clients who allocate as much as 50% to alternatives. But others who need more flexibility, perhaps to keep investing in their business, might allocate considerably less. 

Your multi-year plan

We recommend that clients diversify across all key factors. That includes sectors, geographies, managers’ skill sets—and time.

That’s right, time is a critical factor we think you should diversify. Private investments are often referred to as “vintages,” like wine. A fund that starts in 2015 and invests capital over the next three to four years would be called a “2015 vintage fund.” And just like wine, there are vintages that are better than others (investing all your capital in 2007, right before the Financial Crisis, versus starting in 2009.)

We general recommend investors strive for an even commitment pace over four to five years and recycle capital (and potential profits) thereafter.

Your choice

We recommend starting in one of two ways:  

  • Select opportunities from a wide set we make available. Investors typically can pick from a range of themes they find compelling, such as technology, infrastructure, energy or healthcare. Or they choose based on geography or managers they like. We can help you identify those and work with you to reassess regularly
  • Invest in a diversified portfolio that we build for you ( our “model portfolio”) that allocates to a variety of underlying funds that we vet and manage. Our goal is to find the most favorable opportunities and the most suitable people investing in those opportunities

We can help

Even the most experienced investors can easily be overpowered by the array of alternative classes, strategies and vehicles now on offer. But you never have to go it alone.

Your J.P. Morgan team and our experienced alternatives specialists are here for you. We are committed to helping you ensure that your selections, no matter where they are sourced, work to help you achieve your long-term financial goals. 

 

 

1 Top- and bottom-quartile private equity managers, for example, have had, on average, a 20% performance differential. In hedge funds, the difference is 13% between top-quartile and bottom-quartile performing managers. Data is as of Feb. 2022. Lipper, NCREIF, Cambridge Associates, HFRI, J.P. Morgan Asset Management. Global equities (large cap) and global bonds dispersion are based on the world large stock and world bond categories, respectively. *Manager dispersion is based on the annual returns for global equities, global bonds, U.S. core real estate and hedge fund returns over a 10 year period ending 4Q 2021. U.S. non-core real estate, global private equity and U.S. venture capital are represented by the 10-year horizon internal rate of return (IRR) ending 3Q 2021.

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Key Risks

Investing in alternative assets involves higher risks than traditional investments and is suitable only for sophisticated investors. Alternative investments involve greater risks than traditional investments and should not be deemed a complete investment program. They are not tax efficient and an investor should consult with his/her tax advisor prior to investing. Alternative investments have higher fees than traditional investments and they may also be highly leveraged and engage in speculative investment techniques, which can magnify the potential for investment loss or gain. The value of the investment may fall as well as rise and investors may get back less than they invested. Diversification and asset allocation does not ensure a profit or protect against loss.

As a reminder, hedge funds (or funds of hedge funds) often engage in leveraging and other speculative investment practices that may increase the risk of investment loss. These investments can be highly illiquid, and are not required to provide periodic pricing or valuation information to investors, and may involve complex tax structures and delays in distributing important tax information. These investments are not subject to the same regulatory requirements as mutual funds; and often charge high fees. Further, any number of conflicts of interest may exist in the context of the management and/or operation of any such fund. For complete information, please refer to the applicable offering memorandum.

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Any views, strategies or products discussed in this material may not be appropriate for all individuals and are subject to risks. Investors may get back less than they invested, and past performance is not a reliable indicator of future results. Asset allocation/diversification does not guarantee a profit or protect against loss. Nothing in this material should be relied upon in isolation for the purpose of making an investment decision. You are urged to consider carefully whether the services, products, asset classes (e.g. equities, fixed income, alternative investments, commodities, etc.) or strategies discussed are suitable to your needs. You must also consider the objectives, risks, charges, and expenses associated with an investment service, product or strategy prior to making an investment decision. For this and more complete information, including discussion of your goals/situation, contact your J.P. Morgan team.

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