2022 has seen one of the worst years for market performance in history with the traditional 60/40 portfolio down 16% so far this year. During the first half of the year, the S&P 500 index posted its worst returns since 1970, losing almost 21%. Meanwhile, the Bloomberg US Aggregate Bond Index fell more than 10%, a rare dynamic given that bonds typically stabilize portfolios when stocks are down. If these returns hold, this performance ranks behind only two Depression-era downturns, in 1931 and 1937, that led to losses of more than 20%.
We believe that future returns from a traditional 60/40 portfolio can range from 4% to 6% with higher volatility possible. The end of quantitative easing and rising inflation will likely dampen the higher returns we have had over the past decade and bring us back to more historic norms.
At times like these, where can investors turn? Private placements can offer lower volatility and more stable returns when traditional public markets offer uncertainty.
The attractiveness of private investment
In an investment environment with low expected returns, portfolios must combine a basic strategic premise with tactical investments that seek to increase returns, uncover inefficiencies in markets, and take advantage of illiquidity premiums to enable portfolios to meet planning targets by 5% to 7%. traditional 60/40 portfolio may not be able to meet in the next few years. Only private strategies can provide these three characteristics.
We typically look at private investments in three categories: equity, debt, and real assets.
Private equity funds invest in private companies, restructurings, secondary investments and other private transactions to provide equity-like returns with lower volatility than publicly traded markets. Because their assets are not subject to daily market volatility and because they cannot be bought and sold on a daily basis, investors benefit from the illiquidity premium of having their money tied up for longer periods of time.
Private debt funds provide direct lending in several investment sectors and in many specialized areas where traditional banks do not typically lend. Because they do their own underwriting, maintain loans, and often specialize in smaller areas of markets like renewable energy projects or senior healthcare facilities, they can charge higher interest rates. to those on the market. Additionally, many of them have floating rate terms, so investors make more money as rates rise. Although principal can be locked in for five to seven years or more, receiving coupon payments of 8% to 10% per year offers an attractive rate of return that on its own exceeds most financial planning goals.
Private real estate funds invest in real estate, infrastructure projects and natural resources to provide cash flow and capital appreciation. Private real estate funds, for example, invest in a diversified portfolio of cash flow real estate properties that repeatedly provide tax-free income and appreciation without the day-to-day volatility of a public REIT. Excellent for taxable accounts, clients receive a 5% to 6% annual dividend that is mostly, if not completely, protected by depreciation while causing the underlying properties to appreciate over time.
Relationship Building Strengthens Accessibility
A few companies such as GFP have been using private strategies for many years, but high minimums and high regulatory thresholds have made it difficult for most investors to participate. Since private funds are exempt from registering as investment companies, investors must achieve a minimum net worth of $1 million or, for the most part, $5 million to even qualify for invest. Additionally, private companies have typically had minimum investments of $1 million or more per investment. Our firm has established relationships with many of the largest private companies in the country to enable clients to invest at levels as low as $50,000. This has allowed us to add private investments to many of our clients’ portfolios that in previous years would not have been able to meet minimum funds.
The AltAlpha Portfolio, a Gries-specific vintage fund, is designed to provide investors with a single point of access to a carefully constructed and diversified portfolio of best-in-class private equity strategies. Clients will commit, say, to contributing $100,000 to the fund. An investment team will allocate these dollars to a variety of their best private strategies during a fiscal year. The fund will target both annual cash flow and long-term capital appreciation. This will allow investors to participate in a diversified mix of private investments with extremely low correlation to public equities and fixed income securities and provide attractive absolute and relative return streams.
In an investment environment where the global economy has entered a late cycle phase and inflation has made monetary policy tighter, we believe investors will face a prolonged period of weak investment returns. and increased volatility over the next few years. Proper implementation of private investment strategies can provide the additional return and reduced volatility that investors will need to achieve their planning goals.