Investments: a key pillar of the family office, and an affluent family’s financial longevity. Yet, so rarely do we get to learn from an expert directly. Habib Saikali, CIO of IP Private Wealth, sat down with CEO Richard Kluska to answer our questions about alternative investments.
If you’d like to hear the entire interview, head to the IP360° podcast and plug in your headphones.
IP360°: Business owners and other wealthy individuals often share that they’re so busy building their revenue stream, they have no time to learn anything about how investments actually work, and they end up getting fractured advice from different parties. Is that a common thing that you see, when people first engage with your family office?
Habib: Many clients would come to us with questions, because when they’re dealing with multiple advisors, they’re getting multiple storylines. They’re trying to reconcile and come to sort of a conclusion as to what to do. When you deal with multiple investment advisors, you’re dealing with multiple personalities, multiple salesmen, selling product. They may or may not have addressed the individual’s needs and wants. At IP Private Wealth, we’re not selling a product; we’re providing a very valuable service called wealth management.
Richard: Lots of clients come to us and they’ve had previous relationships with advisors. And all the advisors always promised the same thing: they’re going to capture all the upside and limit the downside. Experience indicates that that’s not has not happened. So why is the IP Private Wealth portfolio different?
Habib: Well, depending on the type of advisor people are dealing with, some advisors tend to be focused on one particular asset class. So they might be just focused on equities, or preferred shares–whatever they think they can generate the most revenue for themselves. In our case at IP, we’re providing a prudent and cohesive constructed portfolio. That involves risk management concepts and processes that mitigate downside. Because bottom line is, we have five different asset classes that we invest in, so that the client’s investment experience is, over the long term, a more stable one, and not a rollercoaster ride. We accomplish this by focusing not just on volatile asset classes like equities; because in the end, you want some liquidity, and you want some income, and you want some capital growth. And, and we provide that by the way we invest.
Richard: So, on that topic: we utilize alternative investment; and, right now, there’s a lot of discussion of alternatives, because fixed income is so low, there’s talk about liquid alternatives. What actually is an alternative investment? And how is our alternative fund providing value to our clients?
Habib: When people talked alternative investments 10 years ago, they were talking about hedge funds. So if it wasn’t a traditional mutual fund, and the underlying strategy was something risky, they just called it a hedge fund—and that’s an oxymoron. Because when you talk about hedge, you’re protecting something, you’re hedging your bets, or you’re hedging some downside. Alternative funds, in today’s world, is also being used loosely.
But what we do at IPPW, is we focus on what we call a pure alternative strategy: we can define what the strategy is in this marketplace. In our case, we’re looking at an alternative to the fixed income asset class, because interest rates are so low that traditionally-balanced investors that have 40% in fixed income, and 60% in equities, are not going to yield much return on their fixed income portfolio.
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So if you have 40% of your investments, yielding 1%, that’s only .4% at the end of the year of a return from that asset class. So, we focus on all alternative lending strategies in our pool. We have mortgages, accounts receivable, lending, commercial paper-backed lending, and we have midterm lending strategies in our portfolio. And you get better yield. In the end, if you really want to generate some income, and you don’t have a liquidity need immediately, then these alternative strategies will definitely reward you over the longer term versus fixed income investments right now, because we know that with fixed income investments right now, with rates so low, you run the risk of losing principal as rates start to rise.
In this case, with alternative strategies you’ve given up market risk, and you’ve taken on some business and liquidity risk; but you’re being compensated for that when you compare what you’re getting out in the fixed income marketplace for owning a corporate bond. So, alternative income strategies are not for everyone, but it meets our clients’ needs because with high net worth clients, they have the fortitude to withstand some temporary market impact; they don’t need to tap into that asset class right away. That will be a steady income generator for them over the longer term, while their equities pay their dividends and grow at a prudent and modest rate over time.
So, be careful when people are talking alternatives; you have to truly understand what the underlying strategy is and what objective you’re trying to accomplish with that.
Richard: So alternative investment class is similar to a bond, in that it’s underwriting credit and underwriting credit risk. Can you share with us: what is the liquidity risk of an alternative? What are the things that a client should be aware of? As you said, it’s not for everybody. What are some of the things that an investor should be aware of?
Habib: Well, with respect to the true alternative income strategy that we focus on, clients have to understand that these aren’t daily liquid investments like a money market or a government or corporate bond, where you can trade daily and liquidate to get your money back. We are investing in a pool of loans, whether they’re factoring loans or asset-backed loans, or mid-term loans, or mortgages. You just can’t liquidate those immediately.
So clients have to understand that when you’re putting your money into these funds, you’re putting your money into a GIC that’s locked up for a period of time. If you try to take your money out, the bank is going to penalize you. When you put your money into these alternative funds, you have to think of it as money being locked up for a period of time; and then you have to ensure that you have the means or other sources of cash flow should the moment prevail that you need extra cash. But again, alternatives are meant for a longer-term investment horizon. And you need a willingness to be patient about investing in these types of strategies.
Richard: So, if I understand this correctly, the alternatives offer a substantive increase over the risk free rate that’s consistent; and lack of liquidity is probably one of the main sources of risk. But a proper asset allocation is key to developing this kind of investment portfolio, correct?
Habib: Absolutely. You don’t want all your eggs in one basket, as the old proverb goes. But, when you focus these alternative strategies, they don’t have market risk. They have, as you said, liquidity risk. And there’s also underlying business risk, because the managers of these alternative funds are lending money to small and medium sized businesses at a premium. So investors get compensated for the liquidity risk and the business risk, by way of a premium that’s being posted on these loans. So are they guaranteed? No. Is there is there a risk to them? Yes. But when you’re spread across hundreds of loans, and one or two of them default, your underlying yield may drop a bit, but you’re not taking on material risk by being diversified that way. So, in the end, you get compensated for liquidity and business risk, by the fact that all these private lenders are lending at levels that are far greater than the current interest rate environment.
This is part 1 of Habib’s interview on prudent investment strategies. Part 2 will be online soon. In the meantime, if you’d like to learn more about IP Private Wealth and the IP360°° philosophy to wealth management, visit the site and familiarize yourself with our team.
