Don’t fall for the common myths and misunderstandings

Have perceptions of hedge fund managers changed? Our panel debates the best ways to expose the myths and misunderstandings around alternatives.

Our panel:

Alex Orr – Manging Director within BlackRock’s Alternatives Specialists team
Jessica Milsom – Senior associate at Stonehage Fleming
William Dinning – Chief investment officer at Waverton Investment Management
Shane Balkham – Chief investment officer at Beaufort Investment

We believe alternative investments could play a major role in almost every investor’s portfolio. They have the potential to offer diversification, strong returns and protection from market extremes or volatility. So, why do the common myths and misunderstandings around alternatives still dominate the conversation?

Common misconceptions

Although alternatives have seen incredible growth over the past decade, many potential investors have several misgivings:

Alternatives are only for the wealthy

Alex Orr, Managing Director, BlackRock alternatives specialists team, believes one of the most widespread public misconceptions is that common alternative investment tools such as hedge funds (A hedge fund is a privately pooled investment fund that uses various strategies to optimise returns) are only available to wealthy institutions and high-net-worth individuals. As a result, hedge funds are often associated with vast sums of wealth and many managers commonly find themselves perceived as something they are not.

Hedge Fund: A privately pooled investment fund that uses various strategies to optimise returns.

“I remember, a few years ago, I was going to see a local authority client, and I’d been asked to do a training session on hedge funds to their trustees,” recalls Alex. “I would say that a lot of their financial knowledge came from the Daily Mail. I was being presented as this hedge fund manager who drove Ferrari’s, drank champagne and was a massive gambler. What it really brought to life was the day-to-day perception of the hedge fund industry.”

They’re too risky and too complex

Many strategies are perceived as highly risky and complex, when they should be seen as vital sources of diversification. “They’re actually designed to protect capital and help limit investors exposure to equity and bond markets, making them less risky” says Orr. “Of course, there are situations that make the headlines and warrant a lot of criticism. But I think the vast majority of alternatives are designed to diversify, protect capital and to have a greater role in the portfolio.”

Risk. Diversification and asset allocation may not fully protect you from market risk.

Why are they so opaque and secretive?

We believe managers often have to address this myth. “We steer away from the strategies that are less transparent, and within our long/short allocations, we get full portfolio transparency on a monthly basis,” says Jessica Milsom, senior associate at Stonehage Fleming. “So that’s definitely a myth we think has been dispelled.”

Education, education, education

The challenge for many alternatives managers is to educate their client base. Investors need to know that instead of being a single asset class, the world of alternatives is extremely broad and every alternative strategy gives you something different in terms of liquidity, diversification and return potential.

“The myths tend towards all alternatives being a single strategy, or all being illiquid or all being diversifiers,”’ says Kelli Byrnes, Vice President, BlackRock portfolio analysis and solutions team. ‘There may be many that are set up that way, but the availability of information is certainly less than for traditional assets, such as equities and bonds. Therefore, being able to understand alternatives from a risk perspective can be more challenging. But the need to understand them is the best way of debunking the myths.’

Rather than being the preserve of the rich and elite, William Dinning, Chief Investment Officer at Waverton Investment Management, views alternative investments as a means for smaller investors to access a lot of significant asset classes that have traditionally only been available to institutional investors.

Risk. There can be no guarantee that the investment strategy can be successful, and the value of investments may go down as well as up.

Alternatives are so much more than hedge funds

While hedge funds are often the first type of alternative that springs to mind, Dinning believes the future of alternatives actually lies in physical assets that aren’t traded on public markets, especially those linked to the trends and technologies of the future.

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It isn’t just about relying on some guru in Mayfair or Greenwich. It’s actually about owning cashflows that provide you a return.

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William Dinning, chief investment officer at Waverton Investment Management

“The alternatives universe is a lot bigger and broader than just hedge funds,” he says. “It isn’t just about relying on some guru in Mayfair or Greenwich. It’s actually about owning cashflows that give you a return. That’s the part that interests us the most, not financial engineering. A lot of this includes things you can see out of the window. In the case of a toll road you’re driving along or an aeroplane you’re flying in, it’s thinking about who owns it, and how they are making money from that. A lot of those markets are very deep and being able to access them in new vehicles is how we should consider alternatives.”

A useful tool – not a silver bullet

At the same time, it remains important to explain to clients that while alternatives can represent exciting new opportunities, there are no magic-bullet solutions, and extracting the most out of these investments requires choosing the right alternatives for the right situation. This is why education is so important.

“The perception among the public is that they’re silver bullets, that they’re a one stop shop and they’ll do everything for everyone in every situation,” says Shane Balkham, chief investment officer at Beaufort Investment. “That’s probably the biggest myth. You have to peel back the onion and explain each different layer, what different funds you can have in there, and that no alternative is going to be exactly the same as another.”