As calls grow for the necessity of alternatives in client portfolios, one advisor looks for utility while avoiding an urgent tone
High net worth clients need alternatives. That’s a trope we’ve heard in the industry for years now as advisors seek alpha and non-correlated returns for their HNW clients. The broad category of alternatives, encompass private debt, private equity, real estate, infrastructure, as well as hedge fund strategies like long-shorts and commodity arbitrage. Many in the industry have applied a new aura of necessity to these products, implying that without them clients will lose ground or suffer higher rates of volatility. Those calls often come with an allocation number attached, arguing for a ten, fifteen, or twenty per cent allocation to this ‘alts sleeve.’
Sarah Bull uses alternatives in her clients’ portfolios. The Partner & Portfolio Manager at KJ Harrison Investors in Toronto specializes in serving the high net worth client segment. In that work she often uses specific alternatives allocations to help her clients achieve their goals. However, she pushes back on the argument that these allocations are a necessity or should be applied at a certain level. She outlined how, instead, a bespoke approach to alternatives can serve a HNW client segment with highly individualized needs.
“Clients don’t need a product, they need advice. They need and expect you to meet their goals and objectives with the least amount of risk and the highest amount of return given that risk,” Bull says. “So given that, there’s no magic allocation to alternatives. I think what’s happened in this industry is that there seems to be a bit of a statement that HNW clients need a specific allocation. I would say it actually depends on the investor, the size of the portfolio, their age, their liquidity needs, their risk tolerance, and their knowledge of the alternatives space.”
Bull believes that advisors considering the use of alternatives should focus on exactly what they deliver for clients. She notes that their diversification benefits can be considerable, especially during periods of heightened volatility. They can also offer higher return potential. At the same time, she highlights their core drawback: liquidity. Many high net worth individuals, Bull explains, don’t want to take on the liquidity risk that comes with alternatives. Liquid alternatives can help with that issue, but Bull notes that diligence is essential to mitigating liquidity risk.
There are many products, Bull explains, that promise liquidity but can’t deliver. Their underlying assets are often still too illiquid to meet that promise. These funds — which Bull says are often in Real Estate — can end up gated at crucial times, leaving clients far more exposed to risk than they should be.
A due diligence process is crucial for any advisor looking to serve HNW clients with alternatives, Bull says. The urgency that comes with ‘need’ language and an insistence on a specific allocation run contrary to that process. The process, she says, needs to revolve around appropriate research and client education, especially when we consider just how many asset classes and strategies fall under the ‘alternatives’ umbrella.
“There are so many different components. We think of alts as private equity, real assets, private credit, but there are also hedge fund style strategies,” Bull says. “It’s a bit of an octopus, and not all alts are created equal and not all fee structures within alts are the same.”
In addition to educating HNW clients on the specific alternatives subsets they’re investing in, Bull argues that advisors need to fully understand the fees on what they’re investing in. While some alternatives funds come with very transparent fee structures, some don’t. Some use more leverage than it may seem on the surface or come with “odd” performance fees.
Bull believes in alts, however, as a tool for HNW investors. That’s because HNW clients expect a level of bespoke service and unique strategy to meet their inherently complex and unique needs. The wide array of options in alternatives, she argues, offer advisors the ability to better create bespoke solutions for unique needs. A cookie cutter approach, however, runs contrary to that utility.
Arriving at those bespoke solutions can also mean managing client demand. Clients may have read an op-ed on alternatives, or hear a compelling pitch elsewhere, and come demanding a certain allocation. Bull acknowledges that in emerging asset classes like some alts segments there is an element of hype or FOMO that can play a role. She believes advisors need to help the client reset and focus on their own goals, determining if a certain alts strategy would serve those goals or not. It’s a view of working with alternatives that she insists must begin with appropriate and stringent diligence.
“It's all about due diligence. Get away from that concept of ‘needing’ alts and focus on customizing them for each client,” Bull says. “Get away from the idea that there’s a magic number for alternatives allocations. There’s a role for alts, they’re suitable for many clients, but make sure that they make sense for the client.”
