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The challenge of alternative investments

by Frank Caccio | October 11, 2020 | Investment Firms

Alternative investments are no longer the sole domain of cocky hedge fund dynamos. Mainstream firms have moved into the potentially lucrative market, lured by the promise of high returns. The downside, of course, are the high-risk issues that can arise that traditional investors are not as familiar or comfortable with.

The financial crisis of 2008 raised red flags for all asset management firms when it comes to alternative investments. Over two-thirds of firms are concerned about transparency in these vehicles and are seeking ways to elevate the risk control measures involved. Accurate and clear information-sharing has become a linchpin for firms to ensure standards and guidelines are being met for client and regulatory demands.

Alternative investments have unique transparency issues

Traditional investors are accustomed to certain levels of transparency and information-sharing. When it comes to alternative investments, however, transparency becomes complex due to the often unique nature of particular investments. Because of the higher risks involved, savvy investors are demanding more information linking potential gains against potential risks. Since alternatives have complex fee structures, high volatility, and limited liquidity, the decision to invest comes with higher scrutiny of strategies.

As the markets become more challenging, investors seek alternatives to mitigate losses in the mainstream. Of course, these alternatives inherently come with their own risks and on-demand information-sharing with investors have become critical competitive advantage for asset management firms.

While firms struggle to meet this demand, the SEC has its own ideas about how to manage transparency. Whether working with offshore or not, regulators are insisting on more consistent valuation policies and conflict of interest disclosures that investors need to know before making the plunge.

Investment fund managers seek to increase their transparency with investors directly, show clear links to returns expectations and risk. Understanding this connection increases investor confidence and establishes the relationship as a partnership. With so much at stake, investors need to assure their own clients as much as asset managers need to assure investor firms.

Data Security Demands Transparency, Too

With the rise of global communications and digital economies, data security has become a high priority for investors. What seems like it’s weekly, a report comes out about a data breach somewhere. Investors need to factor caution in their decisions and data security has become part of their due diligence. It is paramount, then, that asset managers examine data security around all third-party vendors, especially in offshore vehicles that may not operate under regulations and procedures investors are familiar with.

Data sharing technology enhances transparency

Since alternatives often work under unique environments, be it technology, geography, or market, developing information sharing procedures is a crucial component for asset management firms. Staff needs to know they have the same stringent data support with necessary documentation they are used to with traditional investments. While third party resources may be using unique or limiting software platforms, their data should be integrated into the firm’s overall data management process that meets the transparency and compliance demands of regulators and clients.

Implementing a flexible, scalable data information platform is one of the best ways to integrate alternative vehicles into a firm’s policies and procedures. By sourcing everything in once place in the same way as traditional investments, firms can assess their risk control and due diligence needs in a consistent manner to meet demand. This same system can identify gaps in transparency and reporting that need to be addressed and allow room to develop those as well.

By delivering the level of transparency today’s investor needs, firms can elevate client confidence in their decision making and strategies. With client confidence, firms signal that they take their reputation for integrity, security, and performance extremely seriously, which will help retain current clients and attract new ones.

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