A friend recently sent me a screenshot of a Facebook exchange between him and a financial advisor. As a part of his sales pitch, the advisor asked my friend if he has access to REITs, as if they are some heavily guarded investment only available to a select few. They aren’t. And even if they were, it’s not a velvet rope you want to get past.
REIT stands for real estate investment trust, and it’s a popular “alternative investment,” which just means any asset class outside the conventional world of simple stocks and bonds. We are talking about commodities, private placement deals, hedge funds, master limited partnerships (MLPs), etc. These investments are generally more complex but can offer more attractive rates of return.
The logic is that you create greater diversification when you add alternative investments to your portfolio because they don’t always move in tandem with the overall market. And in our current environment when equities are comparatively high and interest rates are low, it’s tempting to seek higher returns elsewhere. However, higher returns also mean greater risk, and the performance history of alternative investments hasn’t shown that they pay off.
For example, university endowments are some of the most heavy investors in alternative investments, and a recent study compiled by the National Association of College and University Business Officers (NACUBO) compared 805 endowments that manage a total of $515 billion against the Russell 3000 Index, which tracks the 3,000 largest US publicly traded stocks. You would think that the endowments would have benefited from “greater diversification” and “higher returns,” right?
But the results of this study were not great. The average endowment, which employees a whole staff of analysts to manage these alternative investments, had an average annual return of 5.0% over the 10-year period ending June 30, 2016 while the Russell 3000 Index provided an average annual return of 7.4% over the same period. In other words, universities spent a lot of time and money seeking higher returns through alternative investments and ended up under-performing a standard US equities index.
So alternative investments are complex, under-performing, and expensive. But for some reason, they are still growing in popularity.
Josh Norris is an Investment Advisory Representative of LeFleur Financial. Josh can be reached at josh@LeFleurFinancial.com.