The growing popularity of alternative investments is having a profound impact on investment firms and the growing practice of fee-based advisory services. And it's not just alternative specialists who are affected, but the entire asset-management landscape, from traditional wirehouses to private banks and platform providers.
Firms would be wise to embrace a fuller mix of services to satisfy today's investors and differentiate themselves from other asset-management firms.
The growing interest in alternatives is characterized by the demand for a more flexible asset allocation, with funds apportioned among various instrument types based on an ever-changing investment environment. And why not? After all, investors increasingly desire diversification and investment options suitable to various long-term goals and risk tolerance.
But the issue is not simply flexibility, it’s also performance. Yes, asset managers and their clients want to match performance benchmarks from traditional asset types. Then, by adding alternative products, they can gain true net yield.
(More: The new Finra rule for alternatives advisers need to prepare for)
In addition, the practice of charging a fee that’s based on the value of an investor's account, rather than a trading commission or flat fee, is particularly suitable to an alternative asset world.
Taken together, alternative investing and fee-based advisory services complement each other admirably.
A CHANGE IN APPROACH
It wasn't too long ago that the typical portfolio was all about conventional stocks and bonds, with perhaps an occasional hedge fund thrown in for a particularly adventuresome investor. Investing and client engagement were pretty commoditized, portfolios were made up of a few favored mutual funds, and any one investment firm had very little to differentiate it from the one down the block.
Today, the range of alternative investment vehicles extends well beyond hedge funds, including such asset classes as commodities, real estate, alternative mutual funds, venture capital, precious metals and more.
Investors' desire for increased and sustainable long-term investment returns is showing up in the flow of capital. Between now and 2020, alternative assets are expected to grow to as much as $15.3 trillion on the strength of friendly monetary policies and stable economic growth, according to PricewaterhouseCoopers'
“Alternative Asset Management 2020: Fast Forward to Centre Stage.” That's up from $7.9 trillion in 2013, with the greatest growth in private equity, real assets and hedge funds (or funds of hedge funds), according to the study.
We anticipate that alternative assets will likely comprise 15% of client portfolios within the next five years as investors become more sophisticated and demand greater strategic variety in their portfolios.
This is where alternative investments and the fee-based advisory model have become natural mutually reinforcing partners.
A BETTER CLIENT RELATIONSHIP
Alternative asset advisory and investing, administered via fee-based advisory services, provide for greater client interaction and a “sticky” customer base. Clients may remain loyal to their advisers when returns are excellent, but in most economic environments (and especially today) what they really want is a richer adviser-client dialogue. This in itself helps cement a closer bond between the two, and encourages long-term relationships.
Naturally, regulators expect to see evidence that new types of products are reviewed and understood by operations, risk management and stakeholders. Since alternative products are relatively new compared to more traditional investment vehicles, they can require greater due diligence by a new-products committee, and new approaches to training, assessing customer suitability, marketing and robust liquidity risk management.
(More: How should advisers allocate to alts? It depends)
The greater challenge is how to differentiate one firm from the competition. Investors are rightly asking their investment firms about what makes them unique enough to do business with.
Devising new business models in which asset variety and customer engagement are paramount, and a better fee structure is an undeniable plus, can go a long way toward answering that question.
Michael Spellacy is the Global Wealth Management Leader at PricewaterhouseCoopers.
