Alternative asset classes increasingly fall under broad subclassifications as hedge funds, private equity and real estate funds. The effort in general to classify alternatives is to stratify these offerings in a meaningful way in order to promote understanding. Understanding both amongst advisors and investors.
But as these types of investments become more mainstream, they have a tendency to cannibalize their most desirable characteristics.
The attraction to alternative asset classes is to diversify away from market risk, correlation and corporate earnings cycles.
But as large capital flows seek these asset classes, efficiencies develop and the "Alternative" nature that was so attractive to the proposition becomes commoditized, yield spreads compress and a mark-to-market element emerges creating volatility. These are the very things you sought to avoid in the first place. The alternative universe is becoming a lot less alternative.
One of the primary culprits of this phenomena is that many of the same players that make markets in the more traditional disciplines like stocks, bonds and currencies, also manufacture alternative platforms.
In a 2017 InvestmentNews article, Alternatives in the Mainstream, the author lists eleven different categories of strategies currently used in retail portfolios. The glaring commonalities amongst them were that they all derive yield from market mechanisms and/or are influenced by one or more economic eventualities.
If it walks like a duck and quacks like a duck...you see where I'm going with this.
Stan Miranda and Colin Pan of Partners Capital discussed "The Role of Non-Traditional Betas in Portfolio Construction." In this fascinating article, a number of Alternative Alternatives are discussed that are far less than mainstream.
The interesting thing to note is that to truly invest in non-correlated asset classes, the specialized knowledge and due diligence to understand these instruments is difficult. But to avoid the pitfalls of sentiment driven markets and geo-political turmoil, a little hard work is necessary.
One general heading under the Non-Traditional Betas is "Insurance-Related." Insurance is one of the steadfast asset classes upon which vast fortunes have been made.
The basic premise is that investors receive premium in exchange for the risk of loss from certain events. These events, even within the sub-category of insurance, carry risk in that the "event" for which one is insuring against financial loss is uncertain. With the exception of one. Mortality risk.
Life Insurance is a unique alternative investment in the form of a Senior Life Settlement. Life settlements are particularly attractive from a portfolio construction standpoint because the event risk being underwritten is certain, there is no correlation to GDP growth or any other return drivers within a portfolio.
Life Settlements as an asset class represent a small portion of the size of other more mainstream alternatives. Large institutional investors remain limited and the market is largely inefficient which presents a formidable opportunity for investors and advisory firms seeking diversification and differentiation from market risk.
The global insurance capital base exceeds an estimated $4.2 trillion but the life settlement market is far more concentrated at an annual pace of roughly $25 billion in settled contract volume.
According to Darwin Bayston, President and CEO of the Life Insurance Settlement Association, an astronomical amount of value in lapsed and surrendered life insurance policies evaporates worthless every year...
The number and amount of lapsed life insurance policies by U.S. seniors over age 65 is astounding: more than 250,000 policies with a combined face value of more than $57 billion are lapsed and surrendered back to life carriers each year.
Capstone Alternative Strategies is committed to consumer and investor education to promote awareness that a life settlement is a credible and regulated option to lapsing or surrendering an unneeded, unwanted or unaffordable life insurance policy.
For a policy holder whose circumstances may have changed, a settlement can be a lucrative option. According to the US Government Accountability Office as reported by Businesswire, settlement can result in a multiple of the insurance carriers surrender offer:
Using just the 1020 policies relied upon in the study means that life settlements delivered $232 million more value to seniors than they would have received from the issuing insurance company. The study shows that seniors would have received $37.4 million if they surrendered their policy but instead received over $269 million from the life settlement transactions.
As importantly, in Capstone Alternative Strategies' blog series, Senior Life Settlements: Performance in Asset Allocation, a comparison study is made between a diversified portfolio of Electronically Traded Funds (ETFs) evenly weighted across four broad assets classes: Domestic Equity, International Equity, Global Bonds and a basket of International Currencies from the period 2008 - 2017.
We set out to show what we have always known. By adding a highly non-correlated portfolio of Senior Life Settlements to a market basket of risk assets, volatility (beta) is reduced and returns (alpha) is stabilized.
Few would argue that the period reviewed represents the most robust bull market run of our times during the recovery period following the credit crisis.
The portfolio, also evenly weighted, including life settlements outperformed the portfolio without this utilitarian alternative asset class. The case for holding life settlements in an investment portfolio in a bear market is academic.
The absolute return characteristics and risk mitigation advantage of eliminating downside capture has benefit for investors that want diversification from market risk.
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