Alternative assets should be a staple for investors

It was a savage 2022 for the stock market. The S&P 500 Index plunged 19.4 percent. The Hang Seng Index in Hong Kong lost 15.5 percent. The Stoxx Europe 600 Index dropped 12.8 percent. Property capital values suffered, too, and are generally a lagging indicator to the lead that stocks take.

But what are the alternatives when stocks are suffering? Investors in alternative real estate subsectors are no longer onto a secret. But they remain a select breed. Alternative assets generally made it into the black even during a bleak year.

“Alternatives can provide an essential ‘aid’ that portfolios require: alpha, inflation protection and dislocation opportunities,” says Gary Leung, head of alternatives for Asia Pacific clients at J.P. Morgan Asset Management.

While the nature of alpha outperformance and inflation protection are clear, the dislocation opportunities require a little more explanation. When capital markets freeze up due to poor equity performance, recently combined with rapidly rising borrowing costs, alternatives investors offer liquidity and lending that may come as a last resort. They can also take advantage of opportunities thrown out or dislocated by plunging values.

“This should create opportunities in distressed credit and special situations lending,” Leung says. “Similar opportunities exist in tactical real estate, where managers can buy select assets from financially troubled owners at a discount.”

Returns for the downward cycle

Beyond special situations, specialty subsectors offer significant diversification and the ability to smooth out returns through property yields that are not correlated with conventional capital markets.

James Choi, managing director and head of investor relations for Asia at alternatives specialist Harrison Street, notes that the underlying drivers of alternative real estate are, virtually by definition, different from conventional property holdings. Not surprisingly, then, their returns are differentiated from other property types.

“We’ve seen that the alternative sectors have lower return volatility and, moreover, tend to outperform during down-cycle periods,” says Choi. “We attribute this to the needs-based demographic demand drivers that are less correlated to business-cycle trends.”

However, alternatives do involve extra legwork to acquire. As specialized sectors, they need a different kind of understanding from conventional holdings, each type of alternative with its own “operational nuances,” notes Choi.

“Successful investment outcomes in these assets do require a deep understanding of these operational aspects, which can be a barrier to entry for new entrants into the category,” Choi explains. “As a result, we believe that partner selection, both at the asset level and general partner level, is critical when investing in the alternative sectors.” The right manager selection can lead to superior risk-adjusted returns.

Read the full story, “An alternative path,” by freelance writer Alex Frew McMillan in the June 2023 issue of Institutional Real Estate Asia Pacific, here.