Why invest in alternative assets? - J.P. Morgan Asset Management
CLOSE

Why invest in alternative assets?

Contributor Vincent Juvyns

For long term investors able to forego some liquidity, a strategic allocation to alternatives assets could help to improve the overall risk/return profile of their portfolio.

Vincent Juvyns



Persistently low government bond yields are creating two problems: a lack of income, and limited opportunity to diversify a portfolio as the cycle matures. Alternative assets might help in both regards.





There is no alternative…really?

The post-crisis economic expansion has been long but relatively anaemic. In this environment, few central banks have been able to normalise either interest rates or their balance sheets, and investors have, as a result, struggled to achieve the desired yield on their investments. Frequently we hear investors state that there is no alternative but to stay exposed to risk assets at the expense of low yielding safe assets.

While this strategy worked well throughout most of the economic cycle, as the cycle ages we believe investors should be considering options to increase the resilience of their portfolios in order to be prepared for an eventual downturn.

We acknowledge that this is easier said than done in a world where core government bond yields are low, particularly here in Europe. The scope for government bond prices to rise to offset any decline in stock prices is more limited than it was in previous downturns. Cash in Europe-with negative real returns-is a similarly unattractive proposition.

As a consequence, investors might need to rethink diversification and expand their horizon beyond traditional asset classes in order to increase the resilience of their portfolio while generating positive real yields. The good news is that there are alternatives.

What are alternative investments?

Alternative strategies are usually defined as investments in assets other than stocks, bonds and cash. They include investments in private assets (which are not publicly listed) or investment strategies that use non-traditional approaches, such as the ability to benefit if stocks fall. It is a broad and heterogeneous universe that can be divided into two main categories: the “return-enhancers” and the “diversifiers”.

Exhibit 1-taken from our recent publication Guide to Alternatives—shows the yield on offer in many of the core alternative markets. The “return enhancers” are strategies, such as private credit or private equity, which seek to generate returns in excess of public markets. There is of course no free lunch. The higher yield compensates investors for a lower level of liquidity in these markets. However, this may not be a problem for longer-term investors that can hold assets through the cycle.

Exhibit 1: Yield alternatives

Asset class yields, %

Source: BAML, Barclays, Bloomberg, Clarkson, Cliffwater, Drewry Maritime Consultants, Federal Reserve, FTSE, MSCI, NCREIF, FactSet, J.P. Morgan Asset Management. Yields are as of 03/31/19, except Global Transport, Global Infrastructure (09/30/2018), Direct lending, EMEA, APAC and U.S. Real Estate (12/31/18). Global Transport: Levered yields for transport assets calculated as the difference between charter rates (rental income), operating expenses, debt amortization and interest expenses, as a percentage of equity value. Yields for each of the sub-vessel types above are calculated and respective weightings are applied to arrive at the current levered yields for Global Transportation; Preferreds: BAML Hybrid Preferred Securities; U.S. High Yield: Bloomberg US Aggregate Corporate High Yield; Global Infrastructure: MSCI Global Infrastructure Asset Index-Low risk; U.S. Real Estate: NCREIF-ODCE Index; Global REITs: FTSE NAREIT Global REITs; International Equity: MSCI AC World ex-U.S.; U.S. 10-year: 10-year U.S. Treasury yield; U.S. Equity: MSCI USA, Europe core real estate: IPD Global Property Fund Index – Continental Europe. Asia Pacific (APAC) core real estate: IPD Global Property Fund Index – Asia-Pacific. Euro Govt. 7-10-year: Bloomberg Barclays Euro Aggregate Government – Treasury (7-10Y). Guide to Alternatives – 2Q 2019. Data as of March 31, 2019.

Exhibit 2 shows the correlation between the key alternative asset classes and traditional public markets. The “diversifiers” are strategies that generate returns with a low correlation to traditional assets, such as certain hedge fund strategies or real assets (tangible assets including real estate, infrastructure and transportation assets). The addition of these assets to a portfolio might serve to not only cushion the value of a portfolio in a downturn but in some cases also enhance the portfolio’s yield.

Exhibit 2: Public and private market correlations

Since June 2008, quarterly returns

Source: MSCI, Bloomberg Barclays, NCREIF, Cliffwater, Burgiss, HFRI, J.P. Morgan Asset Management. RE – real estate. Global equities: MSCI AC World Index. Global bonds: Bloomberg Barclays Global Aggregate Index. U.S. core real estate: NCREIF Property Index – Open End Diversified Core Equity component. Europe core real estate: IPD Global Property Fund Index – Continental Europe. Asia Pacific (APAC) core real estate: IPD Global Property Fund Index – Asia-Pacific. Global infrastructure (infra.): MSCI Global Quarterly Infrastructure Asset Index (equal-weighted blend). U.S. direct lending: Cliffwater Direct Lending Index. U.S. private equity: Cambridge Associates U.S. Private Equity Index. U.S. venture capital: Cambridge Associates U.S. Venture Capital Index. Hedge fund indices include equity long/short, relative value, and global macro and are all from HFRI. All correlation coefficients are calculated based on quarterly total return data for the period 6/30/08 –12/31/18. Returns are denominated in USD. Guide to Alternatives– 2Q 2019. Data as of March 31, 2019.

How can alternatives complement a traditional portfolio?

For long term investors able to forego some liquidity, a strategic allocation to alternatives assets can help to improve the overall risk/return profile of their portfolio. The exact weight of the alternative bucket within a diversified portfolio will depend on individual return objectives, investment horizons and liquidity constraints.

For investors who do require daily liquidity the range of liquid alternative strategies investing in public markets has also increased in recent years.

Investors confronted with negative real cash yields and limited upside from government bonds in the event of a downturn may therefore want to look beyond a traditional 60:40 equity/bond portfolio. Adding alternatives can potentially help them achieve better risk adjusted returns, increase the yield and increase the resilience of their portfolio.

0903c02a825e558b

On the Minds of Investors  

Important information

This document is a general communication being provided for informational purposes only. It is educational in nature and not designed to be taken as advice or a recommendation for any specific investment product, strategy, plan feature or other purpose in any jurisdiction, nor is it a commitment from J.P. Morgan Asset Management or any of its subsidiaries to participate in any of the transactions mentioned herein. Any examples used are generic, hypothetical and for illustration purposes only. This material does not contain sufficient information to support an investment decision and it should not be relied upon by you in evaluating the merits of investing in any securities or products. In addition, users should make an independent assessment of the legal, regulatory, tax, credit, and accounting implications and determine, together with their own professional advisers, if any investment mentioned herein is believed to be suitable to their personal goals. Investors should ensure that they obtain all available relevant information before making any investment. Any forecasts, figures, opinions or investment techniques and strategies set out are for information purposes only, based on certain assumptions and current market conditions and are subject to change without prior notice. All information presented herein is considered to be accurate at the time of production, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. It should be noted that investment involves risks, the value of investments and the income from them may fluctuate in accordance with market conditions and taxation agreements and investors may not get back the full amount invested. Both past performance and yields is not a reliable indicator of current and future results.

J.P. Morgan Asset Management is the brand for the asset management business of JPMorgan Chase & Co. and its affiliates worldwide. This communication is issued in the United Kingdom by JPMorgan Asset Management (UK) Limited, which is authorized and regulated by the Financial Conduct Authority, Registered in England No. 01161446. Registered address: 25 Bank Street, Canary Wharf, London E14 5JP.