It's about more than performance: how to evaluate an alternative fund

Issued by Fedgroup Financial Services
Johannesburg, Sep 11, 2018

Alternative funds have been gaining prominence and popularity with investors and intermediaries in recent times, but before we can evaluate their value, it's important to establish exactly what the term refers to.

In the conventional context, alternative funds include non-traditional assets and collective investment schemes held by institutional investors. These include private or unlisted equity and hedge funds, managed futures, real estate and infrastructure investments, and derivatives contracts. The complicated structures and high minimum investment thresholds of these investment options generally make them inaccessible to the average investor.

However, the definition of what constitutes an alternative investment has expanded.

More than just financial returns

The term now encompasses a mix of traditional and alternative assets that aim to deliver more than just a financial return to investors. This emerging form of socially responsible investing (SRI) incorporates the principles of the three pillars of the triple bottom line. These target investments generate measurable social and/or environmental benefits and drive economic sustainability, while still delivering fair financial returns to investors and adhering to good corporate governance principles.

Examples of SRI include investments by fund managers into smart farming and sustainable agriculture, renewable energy and infrastructure development.

Socially focused

Increasingly, alternative investment funds are also helping to uplift every sphere of society by building schools, medical facilities and low-cost housing in previously underserved markets. In addition to these social and environmental benefits, these investments also contribute to regional and national economic growth and create more jobs.

Fund managers with AUM worth billions are also structuring portfolios or launching indices that target socially responsible investments. Motif Investing, for example, supports female empowerment through its custom No Glass Ceiling portfolio that offers investors access to shares in female-led businesses.

A new generation of socially conscious investors, comprised predominantly of the millennial cohort, is driving this trend, as they seek to impact society positively through their investments, while still realising a return.

Following the trend?

The rising popularity of this investment approach is most evident in the developed markets of Europe and the US, where over 20% of assets under management are currently allocated to alternative investment funds. By comparison, South Africa lags significantly, with an estimated 1% to 2% of AUM invested in alternative investments. We expect this ratio to increase in line with global trends as more local options come online and investors look to diversify their portfolios. This enables them to get a fair, often comparable return to traditional funds while also contributing towards a cause they believe in.

However, when selecting where to invest, investors and intermediaries must analyse alternative investments differently to traditional options. They need to understand the market they're investing in and the inherent risks associated with the broader industry in which the alternative fund operates. These factors differ to those that affect traditional investments such as money market accounts or index funds, as examples.

Be guided by responsible investing

Investors must also consider the fund's ethos and the values-based approach that guides their investment strategies. In this regard, it is also worth investing in alternative funds that adhere to the Code for Responsible Investing in South Africa (CRISA). This global code of investor conduct has been adapted for South Africa and gives guidance on how institutional investors should analyse investment opportunities and governs how investment decisions are made in accordance with sound governance principles. This ensures that asset managers look after investors' money and fulfil their mandate without taking unnecessary risks.

A final consideration is the fund's investment horizon. Infrastructure projects, for example, can take years to complete before earning investors a return. By understanding these risk factors, an investor can then decide what is a fair return and how much value they ascribe to benefit a cause they believe in.