Introduction

The Allocator’s Edge is about alternative investments. The author writes this book for financial advisors and investment professionals who want to do better than status quo. This book is recommended by a columnist on Forbes website. I would like to know what alternative investments are available and how they may fit into my investment portfolio.

Author of The Allocator’s Edge

Phil Huber is the chief investment officer for Savant Wealth Management. He has been involved in the financial services industry since 2007. He worked for Huber Financial Advisors from 2008 until it joined with Savant in 2020. 

Contents

The Allocator’s Edge contains an introduction, a How to Use This Book, and 12 chapters. The chapters are divided into 3 parts, namely The Allocator’s Dilemma (3 chapters), The Past, Present and Future of Alternative Investments (6 chapters), and Building Better Portfolios (3 chapters).

The chapters are:

1. Hindsight is 60/40 – The Impaired Vision of Traditional Portfolios

2. Alternatives – The Most Loaded Word in Investing

3. How Investors Got to Now – The Evolution of Asset Allocation and the Democratisation of Alternatives

4. Too Big to Ignore – The Usual Suspects of Alternative Investing

5. When Alpha Met Beta – Systematic Approaches to Alternative Risk Premia

6. The Investor as Underwriter – Natural Diversification from Catastrophe Reinsurance and Insurance-Linked Securities

7. Keeping It Real – Cash Flow and Inflation Protection from Essential Assets

8. Extra Credit – Filling the Income Void with Non-Traditional Lending Strategies

9. The Future Investable Universe – Novel Asset Classes at the Intersection of Finance and Technology

10. Containers and Contents – Matching the Right Structure with the Right Investment

11. The Allocator as Architect – Designing and Constructing Modern Portfolios

12. Sharpening Your Edge – Cultivating the Client Experience Through Courage and Communication

Review of The Allocator’s Edge

The Allocator’s Edge discusses on the role that alternatives can play in investment portfolios. First, let’s look at the alternative investments discussed in the book.

What are the alternatives?

There are at least 18 alternatives in the book. These alternatives include 1) private equity, 2) hedge funds, 3) real estate, 4) natural resources, 5) alternative risk premia (equity market neutral, style premia, managed futures, global macro, event-driven, variance risk premium), 6) catastrophe reinsurance, 7) infrastructure, 8) farmland, 9) timberland, 10) corporate direct lending, 11) marketplace lending, 12) niche credit (litigation finance, intellectual property royalties, and others), 13) digital assets, 14) collectibles, 15) fine art, 16) shared home equity contracts, 17) income share agreements, and 18) recurring revenue streams.

Alternative risk premia refers to the systematic application of classic hedge fund strategies in more liquid, transparent, and diversifying structures. It represents a collection of rules-based, systematic, and market-independent strategies, both macro- and micro-level, that are designed to extract positive excess returns over cash that are uncorrelated with traditional return sources.

What’s wrong with 60/40 stock/bond strategy?

Elevetad inflation, which we are currently experiencing, keeps the returns of stocks and bonds down. Virtually all the excess returns from both asset classes came when inflation was falling. Thus, 60/40 strategy might not work in the future. However, if the return of 60/40 is low now, how about regression to the mean? I think the return might increase unless there are forces keeping it low. Nonetheless, markets have a way of eroding edges over time as they become more efficient. So it is hard to say whether regression to the mean would happen in the future.

How much to allocate to alternatives?

Asset allocation is bit like putting together a puzzle knowing full well that a few pieces are missing. We are always going to wish we had more of one thing and less of something else. It is an exercise in managing trade-offs under a set of constraints. The choices we make and their perceived benefits and costs are made on a relative basis to other options we can exercise.

In this book, the author provides his own alternatives portfolio in chapter 11. He certainly does not recommend allocating all funds to alternatives, the optimum range is between 10 – 30%.

The expectation

The best allocators understand the importance of managing expectations for stakeholders and clients. Diversifying away from the norm means you will be trailing when most people are doing great. Everything in investing seems to go on longer than we all expect and it seems many of us throw in the towel at the wrong time.

As asset classes are made more easily investable and more rapidly adopted by investors, the very nature of those asset classes changes. Performance and correlations of yesteryear may be less relevant going forward as these asset classes become easier and easier to access.

In short, higher yields and total returns would not exist if trade-offs and risks were not involved.

Costs

A singular focus on fees and costs may lead to the omission of truly diversifying and value providing investments. All incremental costs need to be weighed against the expected benefits and all cost savings should be accompanied by an understanding of what you are forgoing. Any new investment introduced to an existing portfolio should be able to provide more in benefits relative to any additional cost it brings to the portfolio as a whole. Cost is not the only factor in making investment decisions.

Notes on some asset classes

Passive real estate investors can reap most of the financial benefits while delegating the actual oversight and management to an experienced operator. On the other hand, direct property ownership is inherently more hands-on, costly, less diversifiable, and management-intensive, but offers further potential for gains.

The author mentions about the scarcity in real estate pushing the prices up. However, I think the scarcity in real estate may not be so true now but again, it all depends on the location. If the real estate is in a prime location, the demand would always be strong.

He does not recommend gold as an investment and thinks investors may be better off having it fulfilled their material desires rather than their portfolio objectives. He thinks that gold’s role as a hedge is only as strong as its perception.

Contrary to equity investors, credit investors are rewarded for avoiding risk, not taking it.

The author thinks that it is a good thing that private markets naturally force investors to think long term.

Investing strategies

Before making any investment, we need to establish investment philosophy and have an investment policy.

Better investment outcomes can result from enhanced returns, reduced risk, improved diversification, heightened investor discipline or the achievement of non-monetary objectives aligned with the end-user’s values and preferences. Some criteria for good investments include economically intuitive, well supported empirically, likely to persist in the future, reasonably priced and accessible.

Some strategies to reduce fragility of portfolio are 1) building in redundancy and layers (no single point of failure), 2) experimenting and tinkering by taking lots of small risks, 3) avoiding risks that if lost would wipe you out completely, 4) keeping your options open, 5) focusing more on avoiding things that do not work than trying to find out what does work, and 6) respecting the old by looking for habits and rules that have been around for a long time.

Conclusion

Each chapter ends with The Allocator’s Cheat Sheet which contains a handful of bullet points that covers the key points in the chapter. Although the target audience of this book is financial advisors, it exposes retail investors to the availability and rationale of investing in alternatives.

The author differentiates between equity investor and asset allocator succinctly. The “one job” of equity investors is taking advantage of gaps between expectations and fundamentals; the “one job” of asset allocator is to take the best raw materials at our disposal and design an allocation that can most reliably meet clients’ objectives over the widest possible array of market environments.

After reading The Allocator’s Edge, I plan to allocate some of my fund towards the alternatives. My target allocation now to these alternative asset classes is at least 10%.

One-sentence summary for The Allocator’s Edge

Investing in alternatives might not make you rich but they might help to cushion your portfolio during market downturn.

Quotes

1. Great investments (and by extension great portfolios) are nothing if not paired with equally great investors.
2. Negative surprises are the by-product of misaligned expectations.
3. The democratisation of access is what holds the power to improve the lives of many.
4. All successful investment strategies experience ebbs and flows, some tougher to withstand than others.
5. Many talk the talk of being a contrarian or thinking differently, but few walk the walk.

Rating

Interested in The Allocator’s Edge?

You may get the book from through the link below*.

Get the print book from Kinokuniya Malaysia here

*Disclosure: The above link is an affiliate link. Thus, I may earn a small commission when you purchase the book through the link.

Share on Facebook

Tweet