A Case for Alternative Investment Platforms for Independent Advisors

Alternative investments have evolved from a buzzword in the investing world to a must-have for many registered investment advisors (“RIAs”) in order to deliver a comprehensive portfolio solution. While traditionally reserved for institutional investors, more and more high-net-worth individuals are allocating to the space. To cater to this growing demand for alternatives, advisors are looking for efficient ways to allocate to institutional funds, expand their client base, and capture greater wallet share from their existing investors.

At Crystal Capital Partners, we seek to provide RIAs a seamless experience, providing access to a curated roster of institutional private equity, venture capital, and hedge fund managers on a digitized and streamlined platform. Our FinTech solution has been refined over the past decade, based in large part on our personal experiences investing in alternatives over the last thirty years, with the goal of providing advisors everything needed to start their alternative investment journey.

In recent years, an emerging trend has unfolded, that is, a sustained influx of activity in the independent RIA channel. Each year, many financial advisors make the decision to back their own independent practices, breaking away from the wirehouses as they look to gain more control and better provide a diverse array of flexible technology and scalable financial solutions to achieve their clients’ investment objectives. As noted by McKinsey, we’re seeing the transition and inception of more than 700 independent RIA firms annually. This type of activity is driving an uptick in assets managed within the RIA channel, including hybrid BDs, controlling over $4.3 trillion, made up largely by the $3.1 trillion in high net worth assets. According to TD Ameritrade, this figure could grow by as much as $1.4 trillion in 2022.

Trends for RIAs according to RIA Channel:

1. Desire for more autonomy on client accounts

2. Fewer conflicts of interest

3. Preference for fee-based advice

4. Recognition of the independent advisor model

Cerulli published its 2020 report on the U.S. RIA Marketplace, discussing the trends, such as the growth of the RIA channel, and potential setbacks faced with RIAs. “Above all, breakaway advisors are drawn to the financial upside of independence,” the Cerulli report said. “However, they are accustomed to end-to-end operational support from a broker-dealer, which is becoming more readily available in the RIA space, too,” it noted, adding: “Consolidator models capitalize on breakaway advisors’ reluctance to build infrastructure and inclination toward turnkey independence. Their highly integrated model replicates wirehouse infrastructure within an independent framework, giving breakaway advisors the comfort of familiarity.”

Pros of Going Independent:

- More flexibility for client portfolios

- Closer alignment of interests with clients

Cons:

- Lack of infrastructure and resources vs. larger providers

- Need to differentiate the practice from competitors

Given Regulation Best Interests—otherwise known as Reg BI—which has standardized conduct amongst advisors to act in the client’s best interest, many advisors need to find ways to differentiate their practices. One way in which this can be accomplished is by offering alternative investments.

Independent advisors looking to access alternative investments through a customized alternatives investment solution can utilize Crystal Capital’s platform to break into institutional hedge funds and private equity funds via a turnkey solution with end-to-end operational support.

The adoption of turnkey solutions, in general, has enabled advisors to focus more time on business development, capitalizing on a variety of service offerings that may appeal to a wider audience of clientele who have different objectives and needs. Turnkey solutions also offer a powerful marketing tool to advisors by allowing them to present investment opportunities that are typically reserved for institutions and only the wealthiest of high-net-worth investors.

Yale Model = Base Case for Alternatives

Alternative investments originally gained popularity through the Yale Model or the Endowment Model, developed by the late David Swensen and Dean Takahashi, chronicled in Swensen’s book, Pioneering Portfolio Management. The model suggested higher portfolio returns can be achieved through illiquid products, such as alternative investments vs. liquid products, with returns being generated from the higher illiquidity premium and exploitation of market inefficiencies in illiquid markets.

Swensen ran Yale’s endowment fund, starting in 1985, and broke away from the traditional 60/40 split adopted at other universities. He pivoted the portfolio heavily tilted towards alternative investments to capture the excess return from less liquid assets. Nowadays, Swensen’s pioneered model has been adopted by all of the IVY league endowments.

As of June 2021, the Yale Investment Office manages $42.3bn with the investment fund achieving an unparalleled 13.6% annual return over the past 30 years, outpacing rival investors.

Yale’s Endowment has Beaten its Rivals Over the Past Decade
Growth of $100

Search for Alpha in Current Market

Today's market environment continues to support the interest in alternative investments because of the incredibly volatile market cycle we’ve entered. The search for differentiated and uncorrelated returns, through a diverse array of product offerings is leading investors to find alpha producing managers. Research firm Preqin predicts in their Alternatives in 2021 report that AUM in alternatives will grow to $17.1tn by 2025, compared to $10.7tn in 2020.

Alternative Assets under Management ($tn)*

The growth in assets for alternative investment stems in part from increased investor demand. Once considered a complex asset class only available for a small subset of investors, alternatives are now being included in more institutional individual portfolios as investors recognize the importance of diversified alpha.

According to Scott Nuttall, co-president and co-chief operating officer of KKR, known for its investments in private equity, credit, and hedge funds, “Alternative investments may be where the finest opportunities will be found in the future…Liquidity and simplicity are generally overvalued in markets,” he observes. “Where there is illiquidity and complexity, we prefer to hang out.”

After understanding the need for alternatives in client portfolios, the follow-up question would be: “how do I invest in alternative investments for my clients?” An initial web search shows that there is no shortage of options, ranging from fintech startups to seasoned asset managers. Solutions can also vary from single deal platforms to more comprehensive solutions. However, in the alternatives space, advisors need a way to streamline the operational process for allocating to the space.

Access

Our platform of curated funds and co-investments leverages our 25 years+ of industry experience to identify institutional-quality private equity, venture capital, and hedge fund managers, providing a streamlined technology solution that allows advisors to invest with low minimums. The key differentiation between our access to curated funds is the conflict-free approach our platform takes. Crystal is not compensated by any of the managers on the platform, nor do we receive any placement fees for the distribution of any fund.

Strong investor interest in alternative investments has prompted new managers to enter the space, taking advantage of the flood of new capital. Given the plethora of options for investors, we manage our alternative investment platform by seeking top-quartile managers so that RIAs can capture the excess returns in alternatives for their clients.

While the median manager's returns may be close to public market indices in any given year, top-quartile managers have outperformed bottom quartile managers by 10 to 20% per year according to the chart below, underscoring the importance of avoiding underperforming managers to outperform the stock market. While there is no guarantee to the performance of any manager on Crystal’s platform, our job is to find managers that have developed robust risk management frameworks, proven track records, and deep teams that are designed to navigate market volatility, while, like Crystal, also having some of their own skin in the game.

Average, Top Quartile, Bottom Quartile Performance of Managers
Source: CAIA Association, JPMorgan, Preqin, CISDM

Present

Our platform has a diverse array of technology offerings, including the ability to help educate and scale their clientele. Our client-facing investment proposals are highly visual and engaging and designed to help advisors easily explain the value alternatives can bring to clients’ traditional holdings.

Sample Private Equity Investment Proposal >

Invest

We make it simple for advisors to invest on behalf of their clients. We leverage technology to provide a streamlined subscription process and consolidated reporting (account statements, capital calls, distribution notices, and K1s), reducing the operational overhang with implementing alternatives. Our experienced team stands by to support you through the entire investment process.

Monitor

Investing in alternatives is an ongoing process. Advisors can easily rebalance portfolios, manage upcoming liquidity requirements and track private equity calls using our proprietary portfolio management tools.

Because we are objective in our manager selection, we are continuously monitoring the firms and funds on our platform. We look for changes in personnel, fund style-drift, and character breaks among others, that may affect a fund’s future performance. If we detect any significant changes, we make sure to inform our network of advisors.

With more advisors making the move to be independent and needing the infrastructure for alternative investments, Crystal looks to provide them a solution that elevates their business. Our platform provides an opportunity to invest alongside institutional investors with a customized portfolio of top-quality managers.