It’s no secret that many informed observers of financial markets are increasingly convinced that the spectacular bull market that emerged in 2009 will run out of steam in the next few years. History, and the law of large numbers, indicates it is inevitable.
In his book Mastering the Market Cycle, Oaktree co-founder Howard Marks provides an in-depth view into the predictable gyrations of markets from one cycle to the next. As Marks, who created the world’s largest distressed debt fund, noted in his book, “Cycles have more potential to wreak havoc the further they progress from the midpoint.” Once markets move “back towards the midpoint [of sentiment and valuation], the swing imparts momentum to it that causes it to overshoot the midpoint and keep moving toward the opposite extreme,” the legendary investor wrote.
Of course, experts have been calling this market long in the tooth since it broke old records in 2014. Equities keep ridiculing the skeptics. In the 12 months following President Joe Biden’s election in early November, the S&P 500 has surged about 37%, more than triple its historical average return.
Little wonder that giant institutions and financial advisors alike are looking at asset classes outside of large-cap U.S. equities—including alternative investments. The category typically has been divided into two primary vehicles—private equity and hedge funds. The first has performed well since the Great Recession while the latter has delivered mostly disappointment.
U.S. equities aren’t the only pricey asset class. In November, J.P. Morgan Asset Management issued its annual long-term capital markets assumptions, labelling bonds “serial losers” after a 40-year bull market in global bonds. The investment complex was somewhat kinder to equities, cryptically predicting their performance would be “stable but cyclical.”
Echoing a growing chorus of large insfititutions, J.P. Morgan went a lot further when it came to alternatives. “Looking beyond public markets is increasingly essential,” the firm wrote. “The benefits of alternative assets—improving alpha trends, the ability to harvest risk premia from illiquidity, and the ability to select managers that can deliver returns well above what is available from market risk premia alone—will continue to attract capital over the coming decade.”
But that last observation about manager selection highlights the dilemma facing advisors. Unlike the children of Lake Wobegon, not all alternative asset managers are above average. And unlike their counterparts in public markets, the dispersion in their performance is much wider, elevating the risk of advisors who select a manager who has a string of bad years. Moreover, skeptics of private equity in particular note that its strong performance over the last cycle has closely mirrored public equity markets.
Investing in private markets is expected to remain lucrative in the year ahead. J.P. Morgan, in its 2022 capital markets forecast, predicted that private equity assets should see 8.1% appreciation in the coming year (compared to a projected 4.1% gain for domestic large-cap stocks). And private debt (also known as private credit) is expected to garner a 6.9% annual return. That exceeds the current yield on a broad range of high-quality public fixed-income investments such as government, corporate and municipal bonds.
Advisors and brokers haven’t totally ignored the alternative investments space in recent years. The granddaddy of alternative investments over the last five years has been Blackstone BREIT, a non-public, so-called NAV REIT that allows monthly redemptions of 2%, up to 5% quarterly and 20% annually.
Its investments in more than 1,700 properties has swelled to about $73 billion, or nearly 10% of Blackstone’s total assets. Since its inception in January 2017, the fund, which invests 90% of its assets in real estate and 10% in real estate debt, has returned 13.02% annually as October 31. Blackstone is the nation’s largest owner of real estate.
Some advisors question whether they can access the same elite managers who cater to billionaires and huge pension funds. Blackstone has steadfastly maintained retail investors in BREIT, along with its private equity and hedge funds, are getting the same investments as institutions.
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