Even for those of us who see the market as a mostly cyclical, reliable environment, the past decade or so has been quite a wake-up call.
While many portfolios have seen a recovery since 2008, most investors still get the jitters whenever the market dips. The logical response for investors and advisors alike is to seek out new investment vehicles that produce yield and help protect assets—even in the face of another bear market. But where can you find that yield? The Fed is expected to raise interest rates in 2016, but even if they do, the jump won’t be enough to significantly improve yields for most income-oriented investors.
Seeking yield is a tricky business in today’s environment, which is why more advisors than ever are exploring alternative investments. If you’ve been exploring alternatives in an effort to find some level of reliable yield for your clients, it’s important to understand the complexity of correlation—especially when considering “non-correlated” alternatives. The desire for investments that don’t fluctuate with traditional financial markets (stocks, bonds, and real estate) is understandable, but the reality isn’t always what it seems at first glance.
The interesting thing about correlation is that it tends to hide when things are good, and becomes really visible (at the very worst time) when things are bad. 2008 was an all-too-painful reminder of how this works. Anyone invested in “non-correlated alternatives” like REITs, BDCs, and energy stocks at the time were under the illusion that these investments were providing diversification in their portfolios. But when the stock market crashed, all of these vehicles began to exhibit frighteningly high correlations—and returns suffered, to say the least. The same thing happened as recently as this past December and January when correlations of “non-correlated” assets spiked. The lesson learned? Correlation can be surprisingly relative, and so-called non-correlated assets only live up to their name if you look at them at the right time.
This puts advisors in a tough position. A recent survey by WealthManagement.com of 755 advisors revealed that most advisors (43% of those surveyed) use alternatives to provide greater diversification and uncorrelated return. But what if the alternatives being used aren’t truly uncorrelated? To achieve their goals, advisors need to find a new alternative—one that has no market correlation, yet has the potential to generate significant returns.
That new alternative is investments in life insurance.
If you’ve never considered life insurance as an alternative investment, you’re not alone. Just five years ago, they made up a very small niche market, which today is still small. Few advisors even knew they existed, and even fewer knew enough to take advantage of their benefits. But the confluence of unfavorable market conditions and an aging Baby Boomer population is opening the floodgates, and more advisors than ever are using life insurance as a tool to help generate non-correlated returns with low volatility.
Another plus: it’s easy to explain to clients. Most everyone holds at least one life insurance policy. They understand death benefits, and they understand premiums (perhaps all too well since those premiums are increasing every year). With a life insurance settlement, the policyholder sells a life insurance contract to a third-party investor and receives an immediate cash payment from the buyer (one that is typically much greater than the payment received if a policy is surrendered to the life insurance carrier). The buyer continues to pay the premium and then receives the death benefit.
The benefit to the seller is clear, especially if the policy is no longer wanted or needed. The benefit to the investor is just as clear. Unlike other alternatives, the factor that drives the return on this investment is inevitable. Whether a death benefit is collected depends on one thing: the policyholder’s longevity. No other factors are involved. Not the strength of the market. Not energy or commodity prices. Not global economics. It’s a truly uncorrelated alternative that’s growing in popularity every day. And for good reason. Retiring baby boomers—all 75 million of them—are looking for new ways to fund their retirements and pay for the long-term care that comes hand in hand with longer life spans. If this weren’t enough, the purchase and sale of life insurance policies is a highly regulated transaction providing transparency and safety to buyers and sellers alike.
The market is more volatile today than it’s ever been, which means we’re all looking for ways to hedge market risk. Whether you’re just now starting to dip your toes into alternative investments or have already taken the plunge, be sure to consider life insurance as the one option that offers all of the benefits of alternatives—with none of the potential market correlation (no matter when you look at the numbers). Even better, life insurance is easy to understand, which just may it the fresh, new alternative that finally gets your clients excited about investing in something they’ve never heard of…until now.