There’s a place for alternatives for many high-net-worth clients, advisors say, but there’s no one-size-fits-all approach to the broad category that includes hard assets, real estate, cash flow producing opportunities in infrastructure, private equities, private debt and commercial mortgages.

Dan Hallett, vice-president of research at HighView Financial Group says alternatives are a “legitimate way to diversify the portfolio and lower volatility.” However, all alternatives are not created equal.

“You want to make sure that there’s real rigour behind the appraisal and valuation of the assets within those funds. So, there are some different due diligence considerations.”

That’s especially important because of the liquidity constraints that come with private market investments.

“The big trade-off there is that you can’t as easily and quickly get into that investment or get out. Some are easier than others to transact in terms of the speed, others less so. Even the ones that offer a bit more liquidity, that can always change,” he said.

There’s also a sweet spot in terms of alternatives exposure, Hallett said.

“If you’re going to have an allocation to other assets, it should be big enough to have an impact,” he said, referring to alternatives broadly. “But at the same time, you don’t want the allocation to private markets to be so big that that now you start to impact the access to liquidity for people.”

Also, from the perspective of the advisor or portfolio manager, the allocation should be high enough to justify the amount of due diligence work they need to put in.

“It’s got to be something probably higher than a 5% weight because there’s a lot of work to be done, regardless of whether it’s 1% or 10%, you have to do the same due diligence work.”

Tim Brisibe, vice-president tax and estate planning with Mackenzie Investments, which offers advisors access to private investment and wealth management resources through Mackenzie Private Wealth, notes that high-net-worth clients have more flexibility in portfolio construction.

“The asset mix perspective would be a big focus of high-net-worth clients and capital preservation,” Brisibe said. “They want to grow, but they want to preserve their capital.”

In that context, private market investments give high-net-worth clients a “wider range of asset classes to improve their portfolio,” he added, citing their “low correlation to public equities” and “lower downside volatility.”

Ultra-wealthy clients

For ultra-high-net-worth clients, with $30 million or more in investable assets, alternatives can provide the broader diversification they need, said Vanessa Flockton, president, private wealth with Vancouver-based Nicola Wealth.

The objective is to build a pension-style portfolio with a wide mix of assets that work together to produce long-term, consistent results, she said. “In any given market environment, it’s almost like every asset class has its day in the sun. If you have a really good, diversified model, all the assets are working together to produce a consistent and stable result.”

Flockton said Nicola’s approach has tended to outperform in times of uncertainty owing to that focus on diversification, exposure to alternatives, and on assets that generate cash flow.

Cash flow can be more stable than relying on asset appreciation, “so it helps weather turbulent times,” she said.

Flockton said alternatives can be appropriate even for conservative investors who are focused on long-term security.

“If you have quality underlying assets in each spot [across the portfolio], in each alternative or in the public markets, that’s what you’re looking for. You’re looking for things that you want to hold over the long term that produce cash flow. It helps to significantly reduce risk and volatility.”

Micha Choi, a client portfolio manager with Guardian Capital Advisors said new clients are curious about alternatives.

“‘People say I’m supposed to hold alternatives,’” they’ll tell her, asking “‘What do you think?’”

Choi said alternatives are complex strategies that require rigorous oversight, something most individual investors simply can’t do on their own. With the help of professionals who truly understand these markets, however, they can be a good diversifier and add value.

She advises caution with private market investments, as transparency can be an issue.

She’s seen new clients come in holding funds of funds with so many layers that it’s challenging to evaluate, even for a professional.

“If you don’t understand it, you shouldn’t invest in it,” she said.