The powerful potential of adding alternative investments to your portfolio.

What are alternative investments? Alternative investments include those asset classes that are different from the three broad asset classes of Equities (Stocks), Bonds and Cash you traditionally see in a mutual fund or most other managed portfolio’s.  Stock and Bond investing is often referred to as traditional but as you can already see, alternative investments which include Real Estate, Commodities, Private Companies, Collectibles, etc. have been around for a very long time. 

Once a choice for only wealthy investors, alternative investments have moved into the mainstream. You might be surprised to learn that some of Canada’s largest and best-known pension funds invest as much as 50% of their portfolio in alternatives.

Not all investments are created equal and while alternatives have the potential to be of benefit its important to discuss the risk with your representative to ensure an alternative investment is right for you.  At WealthTerra we recommend a balanced approach among asset classes and markets, one that is suitable for each individual and that meets their goals, objectives and risk tolerances.

What is an Asset Class and Asset Allocation?

An asset class is a specific category of assets or investments that generally exhibit similar characteristics and behave in somewhat a similar manner in the marketplace.

Asset Allocation is the general term used to describe the process of selecting the appropriate proportion of different asset classes in an investor’s portfolio.  What percentage of apples, oranges, pears, pomegranates, dragon fruit to include in my personalized fruit salad.  The asset allocation is the outcome of assessing the client’s needs and objectives, timelines, risk tolerances, constraints, etc. 

*According to an often cited 1986 study by Brinson, Hood, and Beebower, “strategic asset allocation accounted for 93.6% of the variation in returns on very large investment portfolios.”  Other studies have supported this finding, concluding that “asset allocation, rather than security selection and market timing decisions, had the greatest impact on the variability of total portfolio returns.”

*Canadian Securities Institute Inc., Investment Management Techniques (2014), pg. 12-5

Why use Alternatives?

According to the Canadian Securities Institute (2014), the three main reasons why an investor would include alternative investments in a portfolio are:

  1. To incrementally increase returns more than incrementally increasing the risk.
  2. To incrementally decrease the risk more than incrementally decreasing the return.
  3. To increase the absolute return nature of the portfolio, making it more resistant to capital erosion in market downturns.

Alternative investments can increase the number of investment opportunities available to an investor, can increase portfolio diversification and can help control risk.  They can add superior risk/return potential to a portfolio.  Many alternative investments also target absolute returns which aim to produce returns regardless of market conditions.

In our opinion, alternative investments have an integral role to play in an investor’s portfolio.  With the increasingly positive correlation among stocks and bonds (traditional asset classes) and the research that supports the importance of asset allocation, alternative investments can’t be ignored.

*CSI Global Education Inc., Advanced Investment Strategies (2012), pg. 9-6

Benefits of investing in Alternatives can include:

  • Diversification – investing in different asset classes and access to a different market (Private vs Public markets).
  • Low correlation to other investments – different asset classes can behave and react differently to the same set of circumstances, one may react favourable while another negatively.
  • Potential for higher returns – often taking more risk comes with the potential for higher returns
  • Better risk-adjusted returns – no investment is risk free, sometimes the risks warrant the return, sometimes not.  Risk can be mitigated in many ways and it is not always obvious to the investor the amount of risk they are taking.
  • Access to Unique Opportunities – access to rare skills and knowledge can translate into large gains for an informed investor.
  • Illiquidity – some assets like real estate or collectibles, which can often not be sold quickly can help us from making rash or emotional decisions and can offer the benefits of compounding over time.

Risks of investing in Alternatives can include:

  • Illiquidity – assets like real estate or collectibles are not quickly sold, may need significant time to produce a desired return, or are event-driven.  Alternative investments are often not liquid and thus you will not be able to access your capital until the return is realized.
  • Management (Key Personnel) – as with any investment, who you invest with is probably the most important decision you can make.  Not all investments are created equal but good management in our opinion is the one asset that sets success apart from failure.
  • Risk of Loss – every industry has good and bad examples of great successes and terrible failures.  All investments have their associated risks.  If you invest, you must be willing and able to accept the potential for loss.
  • Inflation – understanding the harmful effects of inflation is key to every investment decision.  Your investments need to generate a return equal to at least the rate of inflation to maintain your purchasing power.
  • Currency - Investing in foreign currencies such as US dollars or international destinations can increase your risk of loss.
  • Regulatory Changes – changes in the regulatory environment can be unpredictable and can have both positive and negative consequences.   
Understanding - Risks & Regulations

All investing comes with risk there's no way to avoid it.  Alternatives, just like traditional investments, have risks.  Our duty at WealthTerra is to ensure you are aware and have an understanding of those risks present in each investment. Our Private Wealth Advisors (Dealing Representatives) will ensure you understand how each Alternative Investment will effect your portfolio and the regulations which make them available.

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FAQ's - got questions

The best defence is a good offence and the best way to protect your wealth is by educating yourself.  A little time spent on due diligence will go a long way for years to come.  We strongly recommend and encourage our clients to get involved.  Ask questions like "What are the risks with this investment?", "Who are the managers?", "What is their experience?".  Know before you sign on the dotted line!

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Creating Your Portfolio

The trend of adding alternative investments to Canadian's portfolios is increasing.  More and more investors are looking at ways to increase their portfolio's diversification.  To meet this growing demand, WealthTerra offers alternative investment solutions which can be custom tailored towards specific client demands, across major asset classes and regions.

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WealthTerra Capital Management Inc.

WealthTerra Capital Management Inc. is a registered Exempt Market Dealer in the provinces of AB, BC, MB, NL, & SK.  There are risks associated with investing please be sure to read and understand these risks prior to investing.