The tide is in for alternative investments.

Institutional and rich investors were once the only buyers, but new products are putting alternatives in play for a much broader range of investors. As a result, financial advisors are increasingly bombarded with questions from curious clients. Early adopters are in a position to answer these queries, but for the uninitiated advisor—it’s time to get up to speed.


The growing interest in alternative investments, or alts, which include everything from commodities to private equity, has been driven by challenging market conditions and new investment vehicles that cater to investors with more modest portfolios.

Certainly, alternatives are not new to the market. Institutional investors have been using vehicles like long/short funds for years as a hedge against volatility, because of their low correlation to the traditional asset classes of stocks, bonds and cash. Not intended to replace conventional investments, alts can act as a compliment, smoothing out the highs and lows of the market and reducing volatility.

But these types of funds have been proliferating and growing in popularity beyond institutional investors like endowment funds. This helps explain the growing interest in alternatives among broader swaths of investors.

“Generally, institutions are early adopters of new investment types,” explains Tom Florence, CEO of 361 Capital, a Denver-based firm specializing in liquid alts. “As they begin to publicize their success, the rest of the market recognizes it and then begins to adopt it.”

But there are other reasons for the surge in interest. Lisa Shalett, head of investment and portfolio strategies at Morgan Stanley Wealth Management, observes that demand for alternatives among baby-boomer investors has risen in response to the volatility they endured during the financial crisis and the growing proximity of their retirement. “You don’t want to expose yourself to a big loss right before retirement,” she notes.

Adding alts to a portfolio can dampen volatility and help a portfolio recover more quickly from shocks, agrees Ed Walters, director of product and research for Janney Montgomery Scott’s wealth management division. “If you’re not as down as far as the general market,” he observes, “then you are going to recover faster.”

Even if an advisor never mentions them, clients are increasingly aware of alternatives, whether from news reports or conversations at cocktail parties with other investors.

“It’s a genuine business risk for advisors not to be talking about these investments. Not because they are suitable for everyone, but because the client is interested,” says Shalett. “Where they are appropriate, we have a duty to suggest and explain it to that particular client.”


Growing interest is also leading more financial services firms to enter the alt space.

“We’re seeing an increased level of activity and an increasing number of alternative solutions from third-party managers. They’re looking to diversify their business,” says Keith Glenfield, head of the alternative investments business for Bank of America Merrill Lynch. “Not only is that increasing the level of solutions available to ultra-high-net-worth clients, but it’s opening up the different segments to clients.”

The number of alternative investment funds monitored by research firm Morningstar has grown from 239 in 2009 to 424 in 2013—a 77% increase. A growing wave of money has been pouring into those funds as well. Total invested assets in these funds have nearly tripled since 2009, rising from about $49 billion to $139 billion, according to data from Morningstar. The most popular alt fund category, as defined by Morningstar, is long/short equity, with $50 billion in total assets last year.

Financial services firms like Fidelity have benefited. Michael Diamond, vice president of product management, says that 22% of net mutual fund inflows went into alternative investment mutual funds in 2013.

But wealth management companies are looking beyond funds. Fidelity launched an alternative investments platform last fall that provides financial advisors with access to research from Morningstar and Goldman Sachs, as well as to alternative investment products such as hedge funds and private equity funds. The Boston-based brokerage firm has also been hosting a series of regional conferences to educate advisors about incorporating the use of alts in client portfolios.

As part of its campaign to promote the category, Fidelity hosted an expert roundtable in April on how best to support the rising interest in alternatives. The simple answer, participants said, was to offer advisors and their clients more education.

“Arming the advisor to make informed decisions is of the utmost importance,” Matthew Brown, CEO of CAIS, an exchange for financial products and research, told the other panelists at the New York roundtable. “We don’t want to bring new products to advisors who don’t really understand them and aren’t comfortable with them.”

Larry Restieri, head of alternative sales at Goldman Sachs Asset Management, argued that the alternative investment space is set to grow quickly because of increasing educational opportunities for advisors and because market conditions are favorable for alts, noting that growth in equities and fixed income may be muted in 2014.

“If you look over time, the fixed income part of your portfolio has really driven returns. But in the near and medium term, we are expecting rates to rise, and the fixed income part of your portfolio may not yield much returns or might actually give negative returns,” Restieri told his fellow panelists.

Adding alternatives to a portfolio can dampen volatility and help drive returns, Restieri argued. “It’s adding another piston in your investment return engine,” he told attendees.

Many advisors, however, don’t know how the controls of this engine work.

“In the retail space, not only are they new products for the clients, they are also new products for the advisor,” noted panelist Josh Charlson, director of alternative funds research for Morningstar. “Many advisors have never sold alternative investments before.”

CAIS’ Brown agreed, adding that the complex nature of alternative investments, combined with a lack of understanding, could handicap the growth of alts.

“This is a different world,” Brown acknowledged. “There is less standardization and transparency; it requires the advisor do more homework.”


Despite all the enthusiasm, advisors new to the alternative arena should proceed with caution. The category includes a very wide range of investments and fund types, and each one will perform somewhat differently within a portfolio.

“As is the case with any investment, any portfolio strategy, it needs to start with the goals of the client. What are their goals and how do we structure a portfolio that meets their needs?” asks Merrill’s Glenfield. “The key for us is to provide as much transparency as possible, so that the client understands what they are.”

Some alternatives can be highly illiquid; others can seem opaque, while still others employ strategies that may be difficult for the average investor to understand. While alts are certainly a useful tool for developing a portfolio, they may not be right for every client, adds Janney’s Walters. “At the end of the day, clients need to invest in things that allow them to sleep well at night.”

But if alternatives are a new driver among the golf clubs, then where can advisors go to practice their swing?


One place is a professional training program. IMCA and CAIA recently launched a 20-hour Web-based education program for alternative investment newbies. The training modules provide a broad overview and serve as an introduction to CAIA’s more advanced certifications in alternative investments.

Beyond training programs, Jim Dobbs, IMCA’s director of education, recommends that advisors attend industry seminars and conferences on the topic. “IMCA offers material on alternatives at every single conference we do,” Dobbs says.

This also is reflected in IMCA’s two certification programs, which have been recently updated to include more background on alternative investments.

Other certification programs are also giving alts more airtime in their core curriculum. The CFA Institute recently updated portions of its certification curriculum to include more material on alts, explains Steven Horan, a CFA managing director.

Advisors can also look to their firms for a leg up. Janney, which requires its advisors to take a test before incorporating alternatives into their client portfolios, offers its advisors readings about alternatives online and organizes an annual two-day conference in Philadelphia that includes seminars aimed at newcomers as well as early adopters.

“We’re fortunate,” says Walters. “Because we’re a smaller firm, we can pinpoint where advisors need extra information.”

Before they are allowed to offer alts to clients, Merrill advisors must undergo training on when and why alts are appropriate to include among a clients’ other investments, says Glenfield. “It’s one thing to talk about one piece of the portfolio and another to talk about the overall portfolio,” he says.


As the alternative space continues to develop and mature, advisors will need to stay current with developments as each new product comes to market. They’ll also need to remain skeptical, as many products have been created since the financial crisis and have yet to be exposed to intense volatility, says Mark Sunderhuse, Founder and Managing Director of Red Rocks Capital.

“That’s not bad or good, just untested,” he says.

IMCA’s Dobbs also urges advisors to employ measured skepticism.

“We don’t have a ton of history on alternatives,” says Dobbs. “We can go back on the Dow Jones or S&P for decades. So advisors and investors should be wary, and that is even more of a reason to get educated and understand what they are getting into.”

But advisors should start getting educated sooner rather than later, as alts are only going to grow in significance over the long term.

“At some point alternatives will stop being alternatives,” argues Dobbs. “They will become so interwoven with advisors’ investment strategies that they’ll stop being thought of as alternatives to traditional asset classes.”


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