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Do-It-Yourself Advisors Launch Alternative Funds

As assets continue to flow to alternatives in the wake of the financial crisis of 2008 and 2009, many advisors are launching their own alternatives strategies to meet that demand. Advisors say this allows them to offer clients alternatives with increased transparency, greater liquidity and lower fees.

As assets continue to flow to alternatives in the wake of the financial crisis of 2008 and 2009, many advisors are launching their own alternatives strategies to meet that demand. Advisors say this allows them to offer clients alternatives with increased transparency, greater liquidity and lower fees.

With the advisor at the helm of the alternative strategy, a client gains more control, said Andrew Rogers, president of Gemini Fund Services, a fund administrator. The advisor and client know exactly who is custodying the assets, and they see the fund’s transactions and holdings every day, said Rogers. “They want to understand what’s happening in the fund.”

That kind of transparency calms nerves still frazzled by the market downturn. “All of our investors are getting pretty conservative these days,” said Randy Warren, president and chief investment officer of RIA Warren Financial. Warren’s clients were looking for a defensive-type strategy, so the firm decided to launch a defensive hedge fund in September 2010, which buys dividend-paying stocks and options on the VIX.

Assets in alternatives have been climbing since the market meltdown of 2008, as investors look to asset classes that are non-correlated with stocks and bonds. Many investors thought they were safe with a portfolio of diversified stocks and bonds. But that kind of diversification failed in 2008 because people found that these asset classes were highly correlated to one another.

And while diversification is important, Warren says tactical strategies may be a better way to cushion downturns in the markets in the future. “Sure you need to be diversified, but if you’re tactical, you’re not just going to let a portfolio go and hope for the best.”

Getting Access

Charles Thoele, managing director at wealth management firm Robertson, Griege & Thoele, says that until last year, about one third of his client portfolios were invested in outside private investment vehicles, including one or more individual partnerships. But in 2010, the firm came up with a new structure for providing its clients with exposure to these institutional-type strategies: It launched four different funds, which unlike most vintage year private equity funds, have no closing date and are marked up and down in price based on how the investments perform. The firm’s clients now have about $30 million invested in the funds, and Thoele expects that to grow to between $50 and $75 million in the next three years.

The launch of these proprietary private investments allowed Robertson, Griege & Thoele to lower investment minimums to about $250,000. Clients might not otherwise have had access to the managers the firm selected, because many of them don’t manage public securities, Thoele said. Clients are charged a 1 percent management fee plus a 0.25 percent administrative fee.

Rather than investing in 30 to 50 individual private equity partnerships, as the firm had done before, these funds are pooled investment funds, with 10 to 15 different partnerships in each one. Clients can invest in a private equity fund, a real estate fund, an energy fund, or what is called a top level fund, which spreads 90 percent of its assets over these other three funds.

“This structure is one we use to utilize the private investment markets and participate in outside institutional funds with large minimums,” Thoele said.

Mount Yale Capital Group, which mainly serves high-net-worth investors, had clients asking to put alternatives, such as private equity and venture capital investments, into their asset allocation models. But private equity minimums can range from $10 million to $25 million. “We could put it into the model, but there was no way to fill it,” said Greg Anderson, chief investment officer.

And so, about five years ago, the firm launched a private equity fund, which holds outside private placements, and an event-driven strategy, which brought the minimums down to between $100,000 and $250,000.

Wealth management firm Aspiriant, an RIA based in Calif., found that it was unhappy with the back-office due diligence of some hedge fund of funds, which the firm declined to name. These funds were focused more on their institutional clients, generally tax-exempt pensions and endowments, and their strategies didn’t make sense for those who pay taxes. Such strategies may include tactical trading, relative value, some long/short equity and high yield debt strategies.

So in 2007, the firm created its own funds of funds, which include hedge funds and private equity, said Jason Thomas, chief investment officer.

Aspiriant also wanted to address some of the problems clients had in investing in private structures, such as the fund of fund layer of fees, the lack of liquidity and the tax inefficiency. Clients that use the fund of funds platform don’t have to pay extra fees on top of what they’re being charged at the advisory level, Thomas said.

These guys are not pioneers in making the jump to running their own alternative strategies, but they are different in that most of them have continued to act as financial advisors. Julian Robertson traded in his job as an advisor with Kidder Peabody when he founded hedge fund shop Tiger Management in 1980. Others who left the advisor profession to run their hedge funds include John “Launny” Steffens, who started Spring Mountain Capital in 2001, and Mario Gabelli, who now runs GAMCO Investors.

The New Evolution
Anderson says Mount Yale’s next step is to develop proprietary alternative mutual funds in house, which provides for rebalancing, greater liquidity, lower minimums and ease of access. The problem is, not a lot of skilled hedge fund managers will create a mutual fund version because of the liquidity and capacity limitations. They also won’t give up their performance fees. “You’re going to have smaller selection choice in the mutual fund arena,” Anderson said.

Mount Yale decided to launch the Princeton Futures Strategy Fund (PFFNX), a managed futures mutual fund, in July 2010, which now has $200 million in assets. The firm is also working on another mutual fund, which Anderson declined to comment on, as well as an offshore version of the managed futures strategy to bring it to non-U.S. investors.

In 2009, Rick Lake, co-founder of alternatives consultant Lake Partners in Greenwich, Conn., rolled his multi-manager investment program into a mutual fund, the ASTON/Lake Partners LASSO Alternatives Fund (ALSOX). The strategy is a fund of alternative mutual funds, with the goal of producing a similar risk/return profile of a hedge fund of funds.

But Aspiriant’s Thomas has looked into the alternative mutual funds, and he doesn’t feel the offerings are compelling.

“I think that the regulations on the mutual fund structure are so limiting that you take away a lot of the value,” he said. This includes regulations related to transparency disclosure and the types of securities you have access to in the structure.

That said, Aspiriant has accredited clients that have no problems meeting the minimums of the partnership structure. But for firms with smaller clients, the mutual fund vehicle is their only choice, Thomas said.

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