My struggle with alternative investments, private placements, and commodities dates back over three decades while working for one of Wall Street’s largest firms. I sat near a couple of commodity brokers touting the virtues of silver. They sounded smart and opined about the price of silver, but their predictions rarely materialized. Since 1990, Vanguard’s Long-Term Bond fund has outperformed silver.
The Wall Street firm where I worked was a major player in the commodity arena, and it packaged managed futures funds for brokers to sell as a hedge against a stock market correction or inflation. Brokers were paid 4% to 5% to sell the funds and got an ongoing commission of 5%. I don’t recall whether these funds performed as advertised during my tenure with the firm, but they seemed to fall when stocks fell, which is not a good hedge.
Limited partnerships and tax credits were popular “investments” for brokers to sell in the late 1980s, selling the offerings because they received a large commission of 8.5% or more, and some funds didn’t generate any returns but produced tax losses or credits clients could use to lower their taxes. The general partners sponsored lavish trips and showered brokers with gifts, golf outings, and steak dinners to market the funds. Like silver, the promise of these funds fell short of expectations.
Alternatives, commodities, and limited partnerships were attractive in the eighties and nineties because most investors remembered sky-high interest rates and inflation from the 1970s and the elevated tax rates in the early 1980s, which made these investments easy for brokers to sell. Also, the stock market barely budged from 1970 to 1982, and investors were hungry for something different.
Private placements were also attractive to the brokers because of the commission structure, but few advisors I talked to could adequately value the holdings. A lack of liquidity is also common with private placements. During COVID-19, some companies froze their funds so clients could not access their money. If general partners can’t liquidate their fixed assets, investors can’t make money or recoup their investment.
We’re in another era of firms marketing alternatives to a legion of investors. Today, firms position their offerings as a hedge against another virus, a stock market correction, a rising deficit, stubborn inflation, and higher interest rates, which brings me to Bitcoin and cryptocurrencies, a fashionable category for many. Bitcoin will offer 21 million tokens, the bull case for crypto enthusiasts. However, Yahoo Finance currently has 9,780 cryptocurrencies quoted! How do you choose the right one? How do you value cryptocurrencies? The price target for Bitcoin seems outlandish, with some calling for a price of $180,000 or more, a gain of 195% from the current level.[1] I struggle to find a use case.
I feel old-fashioned and sound like a curmudgeon, but I’ve seen this movie before. Will it be different this time? Maybe.
If you want to invest in alternatives, pay attention to fees, read the small print, and limit your allocation to 3% to 5% of your taxable portfolio.
I am no longer a curmudgeon. I am a curmudgeon emeritus. ~ James Gibbons
April 19, 2024
Bill Parrott, CFP®, is the President and CEO of Parrott Wealth Management. Parrott Wealth Management is a fee-only, fiduciary, registered investment advisor firm. Our goal is to remove complexity, confusion, and worry from the investment and financial planning process so our clients can pursue a life of purpose. Our firm does not have an asset or fee minimum, and we work with anybody who needs financial help regardless of age, income, or asset level.
Investments are not guaranteed and do involve risk. Your returns may differ from those posted in this blog. PWM is not a tax advisor, nor do we give tax advice. Please consult your tax advisor for items that are specific to your situation. Options involve risk and aren’t suitable for every investor. Prices and yields are for today only and are subject to change without notice. Past performance is not a guarantee of future performance.
[1] https://cointelegraph.com/news/how-high-can-bitcoin-go-180k-btc-price-prediction