Show V/O:
This is Alternative Allocations by Franklin Templeton, a monthly podcast where we share practical relatable advice and discuss new investment ideas with leaders in the field. Please subscribe on Apple, Spotify or wherever you get your podcast to make sure you don't miss an episode. Here is your host, Tony Davidow.
Tony:
Welcome to the Alternative Allocations podcast series. I'm thrilled today to be joined by my good friend Aaron Filbeck. Aaron, you’re the head of UniFi by CAIA™. UniFi’s a relatively new initiative. It’s very exciting. Tell our audience what is Unify and how it fits into the overall CAIA architecture?
Aaron:
Well, thanks so much, Tony. Thanks for having me. It's great to be here. So maybe just a bit of background. CAIA association has been around for just over 20 years. We started with the CAIA designation as kind of the flagship designation and educational program that we offered analysts CIOs, GPs, LPs that really want an in depth technical overview of the alternative investment space. But what we've seen over the past couple of years is this wave of democratization of alternative investments and access to alternative investments. And we felt that there needed to be additional educational opportunities for the wealth management space who are relatively new to this new industry and allocating to alternatives for the very first time. So we launched this platform called UniFi by CAIA™, which is an online platform that's really dedicated to educating the wealth management space on alternative investments. And whether or not you're an asset manager wholesaler, you're a wirehouse intermediary or an independent wealth manager at an RIA, we want to help everyone that's in this space speak the language, understand how it works, and kind of all be aligned on the vocabulary and the portfolio considerations for alternative investments. So it's an online platform with a collection of certificate programs and micro credentials that provide both high level overviews of alternative investments as well as deeper dives into some of these different strategies. So, depending on where you are in your learning journey, if you're new to this space, or just want to get brushed up on some of these different strategies, this platform is available to you to do that and go through these formal educational programs. So happy to be here. Thanks, Tony.
Tony:
Fantastic. And I think that's an important pivot here since we are primarily focused on the wealth advisor community. And I do think there is a need for broader education, broader access. There's a lot that's been changing over time. And I think one of the things we want to focus on specifically in this podcast is practical applications about how to allocate. And you and I in the past have talked about things like goals-based investing, something you and I are both passionate about. Why does goals-based investing make sense when we think about alternative investments?
Aaron:
Yeah, it's a really good question and I think an important one, especially when you move from the institutional world to the wealth management world and the differences of the investor types and who the clients are at the end of the day. And I think especially when you think about clients being from various different backgrounds, they're not investment professionals, they're not looking at risk and return or sharp ratios or correlations or anything along those lines. They're thinking about retirement or saving for college or trying to get through retirement or maybe multigenerational wealth. So there's a lot of non-financial objectives and goals that clients are trying to accomplish. And I think it's important for us as a profession to speak that language a little bit more and try to translate this very technical and often complex field into something that's a little bit more understandable for those clients and relate the portfolio to the purpose behind it. So I would say trying to translate that and then build portfolios around those goals and starting with those goals becomes increasingly when you're dealing with different clientele.
Tony:
And it's something you and I have talked about a lot because I think the temptation is to chase returns or you buy alternatives because in theory you want to have the oversized returns where that's not always the case. I'd argue that private equity maybe is really to provide additional incremental growth in your portfolio. But I think about allocating to real estate because I want to get growth in income and maybe I want to help hedge the impact of inflation. I think about allocating to private credit because I want a little growth in income. And maybe when I think about where I'm going to get my defense, I'm going to think about macro or more defensive type strategies. So I think if we can change that discussion, I think it's healthy for a couple of reasons. One, it gets clients off the fixation of trying to outperform the market and you and I know that typically comes with a lot of risk. And then two, it helps us as we start to think about how to allocate. And you have kind of a unique background in the sense that you've been a CIO and ran a research organization so you've analyzed these strategies when you were with an RAA. And I think one of the things that advisors often struggle with is I really like the asset class but how do I allocate, where do I allocate from? So maybe let's start with the basics. So if I wanted to allocate to private equity, how should I think about that?
Aaron:
Maybe just to back up for a second, I think there's two lenses. One is obviously the goals-based element that you just described of growth, income, inflation, protection, downside protection and playing defense. The second question with private equity is a really good example is I think, thinking through the lens of what is the underlying risk driver that I'm introducing into the portfolio. And I think a lot of times and we're all guilty of it, when you think of the term alternatives, you kind of lump everything together in one bucket and instead, what we would recommend is to think about, what am I actually allocating to in the most basic sense? So private equity is a really good example. It's equity. There's some complexity alongside of it, there's illiquidity alongside of it. But at the end of the day, you're allocating to equity-oriented securities. Whether or not they're public or private is somewhat irrelevant from a risk-based perspective. So thinking through that lens and kind of comparing your private equity to public equity and thinking through sourcing in that way, I think makes a lot more sense than kind of having your quote unquote traditional stuff over in one corner and then let's just throw private equity and credit and real estate all in the other corner.
Tony:
And that's the way that we think about it. We encourage people to think about what are we solving for? So if we're looking for growth, we typically think of that from our equity allocation. Why not consider private equity? We think of income primarily coming from our traditional fixed income allocation, but maybe that's a role for private credit and private real estate. But we shouldn't gloss over the fact that there are different structural sort of issues. And I know you and I have both written and spoken about this quite a bit over time. Maybe just walk us through as we think about let's just stick with private equity. We like private equity, but we know vehicle matters and all of that. What are some of the structural sort of things that we need to think about? And how should advisors think a little differently about these new tools that they're getting access to today?
Aaron:
Yeah, it's a really good question. The implementation side of the equation is so important. There's a couple of things that I think are important to consider. One is liquidity, just generally as a concept, I think is an important one. Fund structure and the ability to access some of these strategies has grown in terms of how you access them. It's no longer a binary decision between a regulated mutual fund and a long lockup drawdown fund. There's a lot of different flavors that are in between. I think paired with that is the importance of can you actually get access legally? The definition of an accredited investor or a qualified purchaser. Time horizon I think is a huge consideration, especially when you're thinking about a strategy like private equity. And there's a lot of flavors under there. Buyouts may be shorter than venture capital, but if you're someone that is in retirement and needs regular cash flow, you probably can't lock up your money for ten to 15 years without getting any distribution. So, I think those would probably be some important considerations and I think they're all somewhat tied together in a lot of different ways. If I think about liquidity as an example, you've got the liquidity of the underlying assets, and you've got the liquidity of the fund structure, then you've got the liquidity of the portfolio. So there's multiple facets to think through, but those would probably be some of the things I'd think about.
Tony:
And maybe we'll stick with liquidity because I think, as you and I have talked about in the past, I think advisors and investors often have this aversion to being illiquid. And I'd argue it's just something to be aware of. It's something that I think advisors should lean into. One is because we've seen, based on the historical data, that private markets generally deliver an illiquidity premium, and that's what you get for locking up your capital for seven to ten years. And even though some of the structures do have quarterly liquidity provisions, I still think of them as being long-term investments. And I think advisors need to think of them that way, especially if they want to reap that illiquidity premium. So to me, it's more of an education, and it's something that I've written about quite a bit. I wrote a white paper, which I've shared with you, the cost of being too liquid. And one of the things I argue in there is once you understand what illiquidity is, maybe advisors should think about developing an illiquidity bucket similar to what institutions do, and that instills a certain amount of discipline in the investor. And whatever that number is, if it's ten to 20%, that ten to 20% is truly long term in nature. Seems to me that's a good thing to do, but it takes a little bit of education or it takes a little bit of effort to get there.
Aaron:
Yeah, I think it's a really good point. And one of the things we say a lot at CAIA, is that liquidity or illiquidity is just a feature of investing, not necessarily a benefit or a drawback. It's a feature. I think just thinking about it in terms of just another lens to look through your portfolio I think is important. And that does take a little bit of education. There's a bit of a hurdle there because I think we're so used to being fully liquid portfolios today. So you can think through some of the examples that you gave. I mean, there's liquidity budgeting techniques that exist in thinking about your portfolio, both from an asset allocation perspective, but also what portions are kind of locked up for longer periods of time, which are more kind of semi-regular liquidity. I think it all comes back to the goals that you're trying to accomplish, going where we started the conversation. If you are a 30-year-old, you've got a very long time horizon until retirement, and so you're able to kind of take on that illiquidity and not have to worry about it. You shouldn't necessarily be trading in and out of these structures anyways. You should have a much longer time horizon. That spectrum kind of goes depending on the objective that you're trying to accomplish.
Tony:
And Aaron, something that you and I have talked about and I think is one of the big challenges for advisors as we're introducing new investments to a lot of them, certainly the wealth management community. There's a group of advisors who've used alternatives in a very big way, and there's some that have dabbled and some that are relatively new to it. But one of the things I hear a lot from advisors, I suspect you do as well, is how do I evaluate the strategies? How do I evaluate the strategies and then how do I evaluate the structure? And it really gets to due diligence. And again, I think a lot of advisors are comfortable doing due diligence on mutual funds or separately managed accounts because they can see all the information, there's ready available databases so they can screen out how a manager stacks up on a risk return basis. It's a bit more daunting for alternatives. And maybe, if you can just for privates, how do you recommend advisors get comfortable in kind of understanding what the fund is designed to do, what some of the structural tradeoffs are, and maybe if there's any additional resources that you can suggest in helping through that process.
Aaron:
Yeah, it's a good question. And you're right. The private markets, in particular, the return dispersion between top and bottom managers is much wider than the traditional markets. So, manager selection, due diligence is very, very important because the manager is really driving the outcome within the portfolio. You mentioned too. I mean, one is getting comfortable with the strategy and understanding how the strategy works, how it's supposed to be delivered, what the manager's expertise or edge is. And then the other layer is the structural consideration, the fund vehicle that you're investing in in terms of, I think, helpful resources. One, I think partnering with a good asset manager or a good platform that is trustworthy, that's putting the client first, I think, is always a good thing, especially when you're new to the space. Getting comfortable with this space requires partnerships with the industry. And then there's also a lot of other good resources out there. I know on the due diligence side, ILPA has put out a due diligence questionnaire from the LP's perspective. They do a lot of work on that space. We have a good relationship with them. And then a lot of the resources that CAIA is putting out helping people think through the allocation decision, the manager selection. Our curriculum covers a lot of this as well, but there's a lot of good resources at some of the associations that operate in the private markets. But strategy, structure, partnership, and then I think getting into some good third-party resources is always helpful.
Tony:
Yeah, maybe I'll just pick up on that a little bit. So our audiences varied. If you're at a wirehouse, you likely have internal due diligence, and maybe you're also leveraging iCapital or CAIS. Smaller RIAs may struggle a little bit and some of them may partner with other firms out there. But I do think it's important to understand due diligence and I think as you pointed out the investment due diligence we can think of the four P's that we've kind of grown up within the industry. Those are pretty similar. Obviously we want to make sure that there is an expertise in understanding the space that you're investing in. You can't dabble in private equity. You've got to be there, you've got to know the network. You really have to understand how to source capital, how to deploy it over a period of time. But I think the ODD, the operational stuff, is where we've seen a lot of the problems over the years and those are things I think harder for advisors to do on their own really understanding kind of the operational, the pricing services, the internal checks and balances. And again, I would argue whether the advisor does that or the home office does it because they have the infrastructure in place, or you leverage a firm like an iCapital or CAIS, I think that's of critical importance in the alternative space because there's so many of these unknowns and it is a very different sort of market environment where you have to have the willingness to invest in the long run. And as you point out the difference between that top manager and the bottom manager can be 2000 basis points or more. So yeah, there's a real premium on due diligence and I would encourage anyone listening on this call to be diligent. Leverage resources you have at your disposal. Ask questions of the asset managers. I think they are good sources, but I also think there's some third party sources that can also provide a different sort of lens as well.
Aaron:
100%.
Tony:
So Aaron, you've built Unify and we started out, we talked a little bit about Unify. So the question I get and I suspect you get as you travel around the country is where do I get more information? So in addition to Unify you also write a lot. You've definitely helped me by publishing articles in the Investment & Wealth Monitor. You write things on your own. You tend to do these bigger reports. Where can advisors get more information and what sort of information should they really be seeking out?
Aaron:
Yeah so maybe a bit of a commercial for CAIA but you can always go to our website. We've got a lot of good resources that are available for advisors who are new to alternatives. Whether or not that's some of the formal education programs like Unify and the programs that are on that platform or we have a lot of things that are out there for free. A lot of thought leadership, white papers, blogs, so on and so forth. I think that are important. Obviously there's a lot of other good resources at other institutions. You mentioned the Investment in Wealth Monitor, which I think is a great journal publication that we've published some work in. So I think that's always a really good resource. If I were to kind of break up what you should be looking for, I think there's a couple of categories. They kind of build on each other from an educational journey perspective. One is kind of the foundations of, I think, just getting familiar with this industry and understanding the language, how the asset classes work, how the strategies work, importantly, the fund structures and the portfolio implementation side of things. Just getting that base layer I think is so important. The second category is the actual strategies themselves, getting more familiar with different flavors of venture capital or buyouts, for example, or the different flavors of private credit, for example. And you can get that from some of the things that maybe we put out. But also a lot of the asset managers, Franklin Templeton included, have a lot of good resources that will get into the actual strategies themselves. And then, of course, I think the third category is the actual market kind of commentary. This is a very different market. I know, Tony, you've written a lot of stuff kind of on current events of what's going on. Silicon Valley Bank was a big one this year, and you guys were on top of that. But I think getting a different perspective on what's going on in the private markets because it is related, but there are a lot of different considerations in the public markets.
Tony:
Yeah. Thanks for that, Aaron. And I would just say that my sole focus is really to help advisors have better informed decisions. So, when I write, I'm not writing about any product that Franklin Templeton may have. I'm just trying to look at the world through the advisors’ lens and some of the challenges they have. And as you point out, just understanding the terminology, the difference between the different phases of private equity, understanding some of the structural tradeoffs or what liquidity is, and do we need to be 100% liquid. So, you're a great resource. Certainly, we try to be. I think there are other organizations out there, and I would encourage advisors definitely to reach out. I did want to hit on one topic, and I was doing a podcast with Bill Kelly, the CEO of CAIA recently, and we started to have a discussion about total portfolio allocation. Can you just introduce that topic for our audience here? What are you thinking about when you talk about total portfolio allocation?
Aaron:
Yeah, and Tony, this will, I think, is very interesting to you because I think we talked about this, the goals-based element of things, and I think it ties in quite nicely. But TPA is an interesting and I think, early approach to institutional asset management, but be very curious to see how it goes into the wealth management space. But the idea behind TPA is that we're kind of abandoning the buckets of strategies and thinking more about, as the name suggests, the total portfolio and thinking about the total risk in the portfolio. And you look at some of the large institutional asset owners and the endowments, foundations, commonwealth funds and so on, we've kind of built teams in terms of specialists and people who are more focused on private equity, for example. Or public equity, for example, credit and so on and so forth. And kind of breaking those silos down so that everyone is talking to each other across the portfolio rather than filling a bucket and saying, I need to have X percent in a particular asset class. It's more competition for capital. Where is the opportunity within the portfolio based on the overall risk return profile that we're trying to hit, the total objective that we're trying to accomplish? If you're an institution, you might be hitting an absolute return bogey within the portfolio. So it's thinking more about across the entire portfolio rather than kind of specialist silos and then filling up buckets.
Tonny:
And moving clients and advisor away from did I outperform the market? Whether that means anything or not?
Aaron:
Exactly. You see it from practice. I mean, we're putting in absolute returns in a financial plan. I mean, it's really about, are you hitting that objective? That's not did I outperform the SP or the Acqui or 60/40 portfolio by any means. It's about the objectives.
Tonny:
Fantastic, Aaron, and we've covered a lot. I'll just try to summarize for our audience here. We talked about the importance of goals-based investing, moving people away from chasing returns, and thinking about what specifically are we trying to solve for in the portfolio. And then we talked about the versatility of alternatives. They're multipurpose tools, and we shouldn't group them all together, assuming all alternatives are providing the same outcome. I thought we had a really good discussion around structure and due diligence, which I think is absolutely critical for advisors to understand whether they're doing it on their own or they're leveraging other resources. I think that's of critical importance. We talked about education, and I loved the last discussion about total portfolio allocation, and I suspect that may be a topic we want to revisit in the future, because I think as this is a journey, it's not a sprint. The whole purpose of this podcast series is to constantly engage and try to address issues that we think are challenging for advisors. So, Aaron, thank you so much for joining me today. A wealth of information. And the CAIA Association is a wealth of information. I would encourage everyone to visit the site, tap some of these free resources at your disposal, and keep engaging on your journey. Aaron, thank you so much.
Aaron:
Thanks so much, Tony.
Show V/O:
Thanks for listening to Alternative Allocations by Franklin Templeton. For more
information, please go to alternativeallocationspodcast.com and don’t forget to subscribe wherever you get your
podcasts.
Disclaimers V/O:
This material reflects the analysis and opinions of the speakers as of the date of this podcast, and may differ from the opinions of portfolio managers, investment teams or platforms at Franklin Templeton. It is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice.
The views expressed are those of the speakers and the comments, opinions and analyses are rendered as of the date of this podcast and may change without notice. The information provided in this material is not intended as a complete analysis of every material fact regarding any country, region, market, industry, security, or strategy. Statements of fact are from sources considered reliable, but no representation or warranty is made as to their completeness or accuracy.
All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested.
Please see episode specific disclosures for important risk information regarding content covered in the specific episode.
Data from third party sources may have been used in the preparation of this material and Franklin Templeton (“FT”) has not independently verified, validated, or audited such data. FT accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user.
Products, services, and information may not be available in all jurisdictions and are offered outside the U.S. by other FT affiliates and/or their distributors as local laws and regulation permits. Please consult your own financial professional for further information on availability of products and services in your jurisdiction.
Issued in the U.S. by Franklin Distributors, LLC. Member FINRA/SIPC, the principal distributor of Franklin Templeton’s U.S. registered products, which are available only in jurisdictions where an offer or solicitation of such products is permitted under applicable laws and regulation. Issued by Franklin Templeton outside of the US.
Please visit www.franklinresources.com to be directed to your local Franklin Templeton website.
Copyright © 2023 Franklin Templeton. All rights reserved.
