Greg Rodger, president and chief investment officer of Oakville-Ont.-based HighView Financial Group, was introduced to the alternative investments space about 25 years ago, when he was working at a large financial institution that began to offer hedge funds and private equity.
“It was very limited as to what we offered to clients, so that allowed me as an advisor working directly with clients to fully go through all the research that had been done, ask questions internally, ask questions of the alternative investment providers, so that I could get comfortable with the nuances,” he said.
Today, Rodger is a seasoned investor in the space and his firm takes in clients who have left other advisory practices because they have zero exposure to alternative investments.
Though there has been an uptick in the adoption of alternatives in Canada, particularly in recent years given that higher interest rates put a damper on fixed-income returns, many advisors and retail investors have steered clear. Some of those who’ve jumped in have done so without proper due diligence.
Raising awareness about the nuances, risks and benefits associated with these vehicles, investment professionals say, is key to improving access to alternative investments and boosting investor protection.
“The large majority may still be getting used to these types of strategies and structures,” said Claire Van Wyk-Allan, managing director and head of the Canadian arm of the Alternative Investment Management Association (AIMA) in Toronto.
Trickling down
Two decades ago, alternative investments represented US$4.8 trillion, or 6% of global assets under management (AUM), with hedge funds accounting for much of that allocation, the Chartered Alternative Investment Analyst (CAIA) Association reported in January 2024.
Fast forward to 2023, when CAIA said alternatives were sitting at US$22 trillion or 15% of global AUM. By that time, the category had grown more diverse than ever — including investments in private equity, hedge funds, real estate, private debt, natural resources and infrastructure.
In Canada, interest and investment in alternative strategies continues to grow across institutional, family office and wealth channels, AIMA said in its 2024 Canadian Alternative Investment Landscape report.
Canada’s hedge fund market has grown to nearly US$138 billion, according to alternative investment data provider Preqin, while liquid alternatives have amassed more than US$30 billion in AUM since they first hit the market in 2019, the report noted.
Institutional investors have a longer history with alternative investments, “and obviously trends that begin at the institutional level eventually trickle down to the wealth channel,” Van Wyk-Allan said.
Many clients have sought out these investments because of their ability to complement traditional equity and fixed-income portfolios by providing diversification, lower correlation with other asset classes, capital appreciation and yield.
Still, adoption remains relatively limited in Canada.
Van Wyk-Allan estimated that roughly 10% of advisors in the former Investment Industry Regulatory Organization of Canada channel — which has since become part of the Canadian Investment Regulatory Organization (CIRO) — make frequent allocations to hedge funds and private credit assets. AIMA only covers those two asset classes.
She added that some 7–10% of U.S. investors have alternative investments in their portfolios, based on data from Preqin and wealth management firms, compared to about 1– 2% of Canadian clients in the wealth channel, an anecdotal figure she said was derived from the main dealers.
“The vast majority of Canadian investors — in their retail portfolio — are unlikely to be allocated to alts today,” Van Wyk-Allan said, noting they “may still be getting used to these types of strategies and structures.”
However, whether they know it or not, Canadians have significant exposure to alternative investments via pension plan membership.
The Canada Pension Plan, for example, invests 60% of its assets in alternatives (31% in private equities, 13% in private credit, 8% in real estate and 8% in infrastructure) as of March 31, 2024, AIMA said in its report.
An education gap
Rodger believes the main barrier to wider adoption is a lack of understanding of the risks associated with the asset class.
“There’s such a broad dimension to alternative investments, and they all come with varying levels of risk and types of risk,” Rodger said. “You don’t know what you don’t know.”
“That can create a sense of not wanting to do anything, a sense of paralysis, if you fear you don’t understand what the risks are.”
On the other hand, he said some advisors don’t research the investment beyond the marketing piece they’re given. As a result, they “don’t really understand the risks that they’re exposing their clients to.”
Retail investors also face a “significant” education gap, Rodger noted. “It’s a lot of reading and a lot of digging,” he said.
Rodger further pointed out that alternative investments don’t receive much media attention, and when they do, it’s often when “things have gone very wrong,” which can create a negative stigma around these vehicles.
The collapse of Bridging Finance Inc., which is expected to result in more than $1 billion in investor losses, is a case in point. In late October, Ontario’s Capital Markets Tribunal ruled that the founders of the alternative fund manager engaged in fraud, benefiting personally from the use of assets in conflicted transactions.
“The Canadian market has had a bit of a checkered past” with some alternative strategies, said Madeleine Sinclair, managing director, head of North American distribution with Blue Owl Capital Inc. in New York.
Not everyone believes greater emphasis needs to be placed on getting people more familiar with alternative investments.
Jason Pereira, a portfolio manager with IPC Securities Corp. in Toronto, said Canadians lack basic financial literacy and that teaching them about illiquid assets should not be a priority “when they’re not even educated about conventional investments.”
For advisors, there have been plenty of opportunities to learn about alternatives, said Michael Thom, managing director of CFA Societies Canada. However, he acknowledged that it “is a very broad and deep space” that continues to evolve.
“I think what it points to is maybe not a finite end point for education, but a need for a more robust footing for both initial entry education proficiency requirements and then more robust requirements on what constitutes [continuing education],” he said.
Thom said CIRO’s legacy proficiency platform “was not up to the task of educating advisors on expanding the array of investment options, particularly in alternatives.” But he’s hopeful that the self-regulatory organization will address these issues, especially as it shifts to a new industry proficiency model.
He added that the financial services industry overall needs to do a better job of providing education that is current and relevant, “and I think that’s in progress.”
Canada has been slower to adopt alternative investments than other parts of the world, including the U.S. and Europe, said Jonathan Hartman, managing director and head of advisor channel sales with RBC Global Asset Management in Toronto. He attributed this to a gap between marketing and education.
“I think that a lot of asset managers may have focused more on marketing and asset gathering than on education, and I think dealers have taken a more thoughtful approach to how they build alternatives onto their platforms and in the client portfolios,” he said.
Hartman noted that naming conventions of alternative strategies are “poor,” such as strategies that include “yield” or “yield plus” in their marketing that are positioned as fixed-income alternatives, which are actually equity strategies with call and put options.
“That’s really not in the Canadian investors’ best interest. But I think a lot of firms and advisors recognize that,” he said.
Michael White, portfolio manager, multi-asset strategies with Picton Mahoney Asset Management in Toronto, agreed that the industry is “chock full of jargon.”
“A lot of the terminology that’s thrown around with alternatives is not quite on point,” he said.
Alternatives 101
Industry organizations such as CAIA, AIMA and the CFA Institute offer an array of educational alternative investment resources.
Asset managers such as Picton Mahoney and Blue Owl also offer certification courses and explainers on alternatives.
Meanwhile, other firms including Franklin Templeton Canada are developing educational materials. The firm hired Dario Di Napoli as senior-vice president, alternatives distribution in August 2024 to focus on educating advisors across the country.
“It’s really taking a step back from, ‘Here’s our latest alts product.’ It’s more about, ‘Where are you in your alts journey? How can we help you?’ And eventually talking about investment ideas,” Di Napoli said.
Pereira said one of the biggest problems in Canada is that the primary providers of education outside of licensing bodies are asset management companies and dealers offering financial products, “and they have very obvious incentives.”
“In no way, shape or form is it unbiased,” he said. “It serves their needs, full stop.”
In a similar vein, Thom said that if an advisor is relying solely on a product provider for knowledge on a given topic, “they really need to go and educate themselves.”
Getting this right won’t happen quickly, White said. “[It’s] going to take this kind of slow, steady progress, and it’s a matter of wrestling people off of long-held truisms and understandings of how a portfolio should be built.”
Asking the right questions
Van Wyk-Allan encourages Canadians to “educate themselves and equally be bold” in what they ask of alternative investment managers.
Among other things, she suggested asking them how they handle conflicts of interest, whether “they have skin in the game,” how the fee structure for a given strategy works, whether they have ever changed the strategy and how often they provide updates to investors.
“One of the common misconceptions is that alternative investments can be opaque, but actually, just because you can’t Google and find something immediately on the web doesn’t mean that investors are not provided all of this information,” she said.
Rodger recommended asking managers whether safeguards are in place to minimize the potential for fraud, who retains custody over the cash and investments, whether audited financial statements exist, how likely the liquidity will be available when you want or need it, what valuation method is used and if there is third-party validation of valuations.
People can take a step further by verifying the experience of these managers by doing background checks and searching for regulatory disciplines, he noted.
“It’s always about following the money. Where does the money actually land? Who controls it?” Rodger said.
Thom urged advisors who want to make alternatives part of their offering to do their homework.
“Alternatives don’t need to be a part of every advisor’s practice or book,” he said. “But I think for those that choose to make it part of their practice, there should be reasonable expectation that they’re going to build the requisite expertise.”
This article appears in the February issue of Investment Executive. Subscribe to the print edition, read the digital edition or read the articles online.