Investment Climate & Alternatives
After the market chaos of 2008 and subsequent recession many investors discovered that a lot of the assets they held were "correlated". In other words, when one market performed badly, they all did. Many people's wealth and assets have been allocated as below:
- Property (home ownership)
- Shares and bonds (most pensions are invested this way)
- Cash (bank deposits and ISAs, fixed income products from banks and building societies)
After 2008 these investments collectively performed poorly. Conventional thinking was really challenged by the events in 2008 and people have been forced to question their assumptions. Nobody expected or predicted that:
- there would be a run on a UK bank like Northern Rock;
- giants of the markets like Lehman Brothers could fail;
- HBOS would be seen by other banks as unfit to lend to, and
- global powerhouse UK institutions like RBS would be part nationalised.
The continued uncertainty about the markets left many investors feeling insecure about both the economy and the markets. It took these cataclysmic shocks to open up the realisation to many, a fact that has always been a sensible investment conclusion for some, that an allocation in alternatives provides a crucial diversification for any portfolio.
One Basket, All Eggs?
Diversification is about spreading your investments across a range of assets to reduce the risk of being over exposed in one area. The majority as above, thought they were diversified by being in the property market and the stock market and cash through deposits and ISA's linked to the strength of banks. Given that these are all intrinsically market linked, it had a big impact on their financial wellbeing. However, for those with wealth spread across several asset classes, such as gold, commodities, forestry and land in diverse territories etc., a downturn in one area has been offset by strong performance in another.
What are Alternative Investments?
It's not always obvious, but the following four defining points help.
- Most importantly, alternative investments should be uncorrelated with the more commonly held investments and the wider financial markets. What this means is that there is no direct link between the performance of these markets and the performance of alternatives. In fact, when more commonly held assets perform badly, alternatives usually perform well. This makes them a very powerful diversification tool, akin to an insurance policy. In a market downturn or a crisis they will perform well and earn you returns when you most need them.
- Alternative investments should be directly held, tangible assets. This removes counter-party risk: if the product provider ceases trading you still have the security of owning a concrete asset. When you think about it, this is key to the proposition of alternatives as an insurance policy. The proposition doesn't stand up if you can't realise the value of the asset in a crisis because the product provider has gone bankrupt or it was all just paper money to begin with.
- Alternative investments often have a compelling story or an interesting concept behind the rationale for investing. For example, the rising global demand for food supports the case for farmland; the need for clean, sustainable energy supports the case for green oil plantations; market uncertainty and economic concerns support the case for gold.
- Similarly, alternative investments often have a strong appeal to personal interest - you might enjoy collecting rare coins or developing your knowledge of wine or art, and can combine business with pleasure.
The disadvantages of alternatives
Like all investments, alternatives do have their downsides. By being uncorrelated, less widespread investments, alternatives can have different characteristics to more commonly held assets.
- Liquidity - Some alternatives can be less liquid than cash and mainstream stocks and shares.
- Value Determination - It can be harder to determine their true market value and an independent valuation might be needed: for example with fine art or a stamp collection.
- Lack of market knowledge - When it comes to entering an investment, there may only be limited historical data available to help assess it: for example with a young, developing industry such as green oil or wind-farms.
- High Costs - There can be high transaction costs, as well as on-going costs to consider such as storage for gold or operating costs for farmland.
- Point of Exit - The exit from the investment can be vague or undefined: how do you exit an investment in stamps?
At European Plantation Investments we apply our foresight, unique understanding and analysis to produce alternative investment opportunities that have the right balance of benefits and disadvantages to produce returns and diversification that makes sense.