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Your Broker Wants to Put You into Alternative Investments. Is That Okay?

September 24, 2019

by Howard Haykin



Perhaps ... but first you need to know what's in your portfolio and obtain some basic information about liquid alternative investments, namely: (i) what are they? (ii) how might they fit into your investment profile; and, (iii) what are their downsides? 



Like many cautious investors, you'd like to see your portfolio grow steadily and you want your portfolio protected from big dips in the stock market. That's why you probably hold a diversified mix of stocks and bonds and mutual funds. When stock prices go up, bond prices typically go down - and vice versa. By moving in opposite directions, the components of your portfolio provide you with some cushion against wild swings in the stock markets.


USING PORTFOLIOS TO COVER LIVING EXPENSES.    Things can get complicated for individuals who 'live off' their portfolios to cover living expenses - like retirees and individuals with limited earnings. Should the value of their portfolios drop suddenly and significantly just as they're about to withdraw funds, they can incur devastating losses that may take years to recover from. And this happens when both stocks and bonds fall in price. 


In 2008, the stock markets crashed and some fixed income funds (that held risky high-yield bonds) also experienced massive losses. Some investors - particularly retirees - had no choice but to liquidate their holdings at their lowest price points


LIQUID ALTERNATIVE INVESTMENTS.    That's where 'liquid alternative investments' come into play. Such investments include funds that utilize ... (i) 'market neutral' strategies, where long and short positions in stocks are held; or, (ii) 'managed futures' strategies, where long and short positions in different futures are held. According to Darla Mercado, a personal finance writer for, allocating 10%-20% of a retail investor's portfolio in mutual funds that offer hedge fund-like strategies can be a good thing by providing some added diversification and reducing volatility (wild swings in the markets).


Alternative investments performed wonderfully during the 4th quarter of 2018 when stocks and bonds both fell in price. During that period, market neutral funds lost less than 1% of their values, whereas equity funds on average lost over more than 13% of their values. While

As impressive as those results were, there's a cost to holding alternative investments. For one thing, such hedged funds cost more to operate - usually between 1% and 2% per year. Second, when the stock markets rebound (as they did in the 1st quarter of 2019), these hedged funds tend to generate smaller returns. [Again, with alternative investments, you tend to experience smaller gains and losses.]



YOUR NEXT STEPS.   Before you commit to "alternative investments," be sure you're clear on whether these investments are right for you. First, get answers to the questions raised at the top of this posting. Next, seek out a friend, family member or independent adviser to ‘sound out’ the new investment strategies. 


While alternative investments may not involve rocket science, they may certainly seem to, at least to an uninitiated investor.