SATISFIED WITH YOUR RETURNS?
Are you satisfied with the traditional 60/40 investment model (60% stocks/40% bonds)? Should you be? From a returns perspective and a volatility standpoint, maybe you shouldn’t be.
The 60/40 model isn’t the only game in town.
There’s another model that’s been making waves lately – The Endowment Model, which diversifies away from traditional equities towards more inflation hedging assets.
The Endowment Model has gained much attention thanks to David Swensen, the chief investment officer at Yale University since 1985. Swensen along with Dean Takahashi invented The Yale Model, a variation of the Endowment Model, with an allocation of a majority of the portfolio in alternative assets.
Under Swensen’s guidance, the Yale Endowment saw an average annual return of 11.8% from 1998 to 2018. During this same time, the S&P averaged an annual increase of just 6.16%. Historically, the average inflation-adjusted S&P return has averaged a slightly better 7.53%.
What would $100k be worth today if you invested in an S&P index fund in 1926 vs. something closer to the Yale Model that returned 11.8%?
But how do the two models stack up in a volatile environment? One only needs to look to 2018 for an answer to this question. While the S&P was down 4.38% for 2018, the Yale Endowment reported a return of 12.3%. Buffered with volatility resistant assets, the Yale Endowment weathered the 2018 storm that hit the equities market.
In terms of returns and volatility resistance, the data is pretty clear…individual investors would benefit from alternative assets mixed into their investment portfolios.
So why have individuals historically followed the 60/40 model and not embraced a model more like the Yale Endowment? According to the 2017 American Association of Individual Investors Asset Allocation Survey, the average individual investment portfolio consisted of about 66% equity, 16% fixed income, and 18% cash.
While individual portfolios are highly skewed in the direction of equities, the same does not hold true for large institutional investors such as college endowments or pension plans whose asset allocation models look quite different. According to a January 2017 report from the National Association of College and University Business Officers (NACUBO), university endowments report average asset allocations of 35% equity, 8% fixed income, 4% cash and 53% alternatives.
So why the difference? The simple answer could be a matter of access. Traditionally, the alternative asset class including private equity, commodities, and real estate have had higher minimum investments and entry points than traditional investments, shutting out many individual investors. And up until recently, where private securities offerings were prohibited from general solicitation and advertising; unless an investor ran in the right circles, these opportunities were just not presented to them.
Given the opportunity, individual investors would undoubtedly take advantage of the benefits of investing in alternative assets just like the institutions and university endowments do.
What’s not to like? Along with serving as a buffer from Wall Street volatility and offering above-market risk-adjusted returns, alternatives also offer recession resistance, diversification and tax benefits, all of which explains the preference by large institutions and high-net-worth individuals for alternatives.
For individuals itching to invest like the big boys, the good news is the lack of accessibility is a thing of the past. With the passage of the JOBS Act and the loosening of the advertising restrictions previously imposed on private equity offerings, alternative investment opportunities are now available to individual investors like never before. Various investment crowdfunding and private placement investment platforms are making alternatives more accessible to individual investors, often with lower investment minimums.
Individual investors have access to deals now that were once reserved only for the rich and institutions. It’s time for these individual investors to cast off the chains of the 60/40 model that would tie them to inferior returns and subject them to market volatility. It’s time to embrace alternatives.
Consider investing in local, alternative investments for income and long-term growth.