Retail investors should be careful as wave of alternative investment products it comes to market because many have high fees, lack diversification and offer poor-quality investments, asset managers have warned.
Large institutional investors They have racked up enviable returns in recent years with investments in alternatives, the umbrella term for non-public investments such as private equity, private credit, and real estate.
But the asset class had been largely out of reach for people because it requires large minimum investments and long lock-up periods.
Now, like the industry seeks new sources of growth, a wave of retail-focused alternative investments is expected to hit the market in the next 12 months. Asset managers have warned that these new products may not be as high quality, or as affordable, as those available to institutions.
“The products for retail are missing. . . We haven’t democratized access to a price that makes sense,” said Michelle Seitz, CEO of Russell Investments, at the FT’s Future of Asset Management North America conference in New York last week.
Retail investors may also be less clear about the additional risks they are taking in terms of volatility and an inability to access their cash, he said. “The benefit of a large institution is that you have a CIO who is very clear about his responsibility. We have not provided all those tools. . . to the individual end,” she said.
Retail investors are vital to the growth of the sector because many institutional clients are already heavily invested in alternative products and some are looking to reduce their exposure. Many institutions already hold around 30-50 percent of portfolios in alts, partly due to years of strong returns and partly due to recent declines in public market valuations.
The average retail investor has just 2 percent of their portfolio in alternatives, according to a McKinsey study that projects that figure could rise to 5 percent in the next three years. The consultancy estimates it could generate $500 billion and $1.3 trillion in new capital for alternatives.
Retail investors will enter the market at a time when the recent bear market in public stocks and bonds will likely drive down the value of at least some alternative investments.
That means diversification will be important to provide reliable returns. But retail investors aren’t offered the same options as endowments and pension funds that have billions of dollars to invest. Many will end up choosing individual funds on trading platforms or investing with sole providers due to the high fees in the industry.
“Most institutional investors will have a portfolio of 20 to 40 managers in a diversified portfolio. Retail investors can just invest in a manager, which means taking a lot of risk,” said George Walker, chief executive of $460bn US asset manager Neuberger Berman.
High concentration risk means some investors could win while others will suffer outsized losses, he said. “If you were to take an institution and see that your private equity allocation was in one fund, you would be shocked.”
“The growth that we’ve seen in the democratization of private markets happened in the last ten years, which was a benign market,” said Rohit Vohra, director of global wealth alternatives at Principal Financial Group. “There will be a moment of truth in the coming months. We will see if they really understood what they bought.”
Done right, alternative products will give retail investors more choice, asset managers said, at a time when more companies are choosing to stay private longer. They can also offer more stable long-term returns, as volatile markets make the traditional 60/40 mix of equities and fixed income insufficient for investors hoping to retire.
“We are seeing progress, you are seeing an increasing number of[retail alternatives]. . . but they are still not as liquid, available and affordable as they should be,” said David Hunt, executive director of PGIM.
There is optimism that as alternatives become more widespread, product quality will improve. “What has changed is the caliber of managers who have entered this space,” said David Levi, managing partner at Brookfield Oaktree Wealth Solutions.
Still, “you may see companies that haven’t been building private equity portfolios for a long time creating attractive traps to attract retail investors,” Walker said. “How much more [these] the programs are similar to the institutional programs and it is not just the cuts, the better.”
