Stopping Alternative Investing from Becoming a Mirage

Democratization 1.0 is delivering overly simplistic products that are unlikely to beat traditional investments

'Democratizing Alternatives' has become the asset management industry’s latest mantra. Everywhere you look, fund managers are scrambling to offer alternative investments to everyday investors. While alternative asset classes and strategies should be a part of any well-diversified investment portfolio, the current approach is deeply flawed.

Let's dub the existing approach "Democratization 1.0." It’s a framework built on the shaky foundation of good intentions but poor execution. In the bid to make alternative investments palatable to the masses, asset managers are inadvertently stripping these complex products of their nuance and potential for higher returns. Imagine an ad claiming to offer retail investors access to thousands of private companies. Sounds appealing, right? But the glaring omission here is that mere "access" doesn't translate into a superior investment outcome. Large institutions such as pension funds, sovereign wealth funds and university endowments have access to these private investments. Yet less than half of these investors outperform traditional portfolios.

What's ailing Democratization 1.0? It's the unquenchable thirst to simplify. In the rush to create a catchy sales pitch, the industry is delivering overly simplistic products that are highly unlikely to beat traditional investments. A hyper-diversified private equity fund-of-funds, for example, is likely to lag behind a well-curated basket of public equities when fees and cost of access are accounted for. Or consider private real estate funds that provide nothing more than a pricier, less liquid version of publicly traded REITs. Not to mention hedge fund alternatives that offer little more than overpriced regression betas to equity, credit and interest rates.

So, what's the solution? Enter "Democratization 2.0."

It's high time the industry understands that alternative investing isn't just about access; it's about craftsmanship. Access might be appetizing, but it's only 10% of the gourmet experience.

The industry needs to elevate the narrative beyond the allure of 'access.' Superior returns, after all, are born of rigorous portfolio construction, painstaking scenario analysis, and a finely honed understanding of risk and capital efficiency. In essence, simplify the story, but never the investment or the process.

To do this, asset managers must embrace complexity in the pursuit of simplicity. The art of generating above-average returns compared to low-cost index funds should indeed be challenging. And that’s okay. What’s needed is a blend of meticulous portfolio construction, tailored educational tools, and transparent reporting mechanisms that demystify how returns are generated and risks managed. This approach will not only enrich individual investors but also provide financial advisors with robust platforms to maximize an investor's utility.

We're at an inflection point. As stewards of capital, we have a responsibility to ensure that we're enhancing the investment landscape, not merely complicating it with glossy but hollow offerings. With a more nuanced approach—rooted in complexity but sheathed in simplicity—we can provide everyday investors the same degree of sophistication that has traditionally been reserved for institutions.

It’s not just about democratizing alternatives; it’s about doing it right. Because better beta, lower-cost leverage, and curated alpha can increase the probability of achieving one’s financial goals. And that’s worth the extra effort.