Several years ago, Goldman Sachs was quoted calling equity derivative investors Muppets. This was a derogatory statement that implied that some big institutional investors couldn't think on their own and were "easy pickings" for sales pitches of garbage investments that the investment/trading firm wanted to lay off to someone else.
A lot of pension funds were sold alternative investments at the exactly wrong time. A majority of them are still suffering dearly from the latent effects of poor investment strategies. Add the high fee structures of those alternative investment funds and many pensions are suffering the severe long-term effects of those "sales pitches". In the current bull market, they remain deeply “in the hole.”
The pitch with alternative investment strategies is that they are statistically not correlated with other securities markets. In layman's terms, this means their value moves counter to other investments. When they zig, other investments zag. Being uncorrelated with other investment assets in a portfolio is supposed to “smooth out” the aggregate portfolio value.
The problems are that alternative investments have high fee structures and they are highly risky. The high risk comes from their trading strategies. There are a lot of strategies and some do better or worse than others. Success also depends on the current regime. A regime is the time frame that they are purchased. Alternatives did poorly in gently rising markets, like the period from 2010 to 2016. This is because the strategies used by alternative investments thrive on volatility in markets where many securities are undervalued or overvalued. When volatility is low, there just isn't the opportunities to take advantage of mispriced securities. Taking big bets on mispricing during those times left many strategies "high and dry".
Another aspect to consider is alternative investment strategies have lock-up agreements. This means the investor cannot get out before long periods of time, say 5 or 10 years. So, if the alternative investment does badly, the pension fund is stuck with them for an extended period of time. The fund is precluded from taking remedial actions to correct their purchasing error. Everyone who invests makes errors, but if you do not have ability to rectify the error for a long time, you are stuck with it.
In this linked article, Dion Robouin does a great job describing the issues with alternative investments. The best protection is to fully understand their purpose, the downside risks and exit strategies. I have always found it most helpful to stay with simple investment strategies. Wall Street will always have some sexy, convoluted investment strategy or product to sell. The best policy is to stay with the KISS principal - Keep It Simple Stupid.
When anyone suggests some strategy that is complicated and too good to be true, it probably is!
Caveat Emptor (buyer beware).
