Fidelity and BlackRock are creating more alternative mutual funds—here’s why

For decades, many retail investors allocated their portfolios among standard options such as stocks, bonds and mutual funds that have exposure to these traditional asset classes. Today, many traditional rules, including the 60%/40% stock-to-bond portfolio, are becoming somewhat outdated.

Seeking to diversify away from traditional markets and beat inflation, traditional investors, financial advisors and brokers are turning to alternative investments. These options may include derivatives such as futures contracts on commodities; private capital; block chain; environmental; social and governance (ESG); and international investments.

Because of these factors, liquid alternative funds are on track to break last year’s record of $38.3 billion in net inflows.

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Alternative investments may warrant higher fees

Several decades ago, it was not uncommon for stock brokerages to charge 8% per trade. The Internet, index funds and robo-advisors have changed the model, with most major brokerages offering commission-free trades in US stocks and ETFs.

Many financial advisors charge asset management (AUM) fees, which can range from 0.20% to 2% for managing a client’s portfolio.

Many advisors are currently dealing with fee compression, as the average client account fee in 2021 was 0.69%. Some investors rely on their own research or robo-advisors like improve for financial planning. Betterment charges a fraction of the AUM fees an advisor would charge, starting at 0.25%.

Many alternative investments, such as private equity and real estate, require more strategy and can carry more risk. Unlike index funds, alternative investment ETFs can be actively managed.

One of the main reasons brokerages create these funds is that they can justify charging higher management fees along with performance-based fees.

For example, the ProShares Global Private Equity ETF PEX is a popular ETF that invests in private equity companies and has an expense ratio of 2.67%.

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Brokerages can diversify income streams

US equity mutual funds were very common in investors’ portfolios. Because of high fees, charges, and underperformance, many investors opt for low-cost ETFs and index funds.

As a result, net inflows into long-term U.S. mutual funds have been negative for seven of the past eight years, according to the Investment Company Institute. A good portion of these inflows are going into low-cost ETFs and index funds, which are less profitable for brokerages.

Offering alternative investment funds provides these companies with different and more profitable income streams. Unlike older mutual funds, alternative mutual funds are experiencing increased demand from both investors and advisors.

According to a 2022 CAIS Group survey, 34% of participating advisors thought that a traditional mix of stocks and bonds is no longer effective for investing.

Fidelity launched two alternative mutual funds

Fidelity recently created the Fidelity Advisor Risk Parity Fund FAPZX i Fidelity Advisor Macro Opportunities Fund (FAQFX).

Fidelity Advisor Risk Parity Fund (FAPZX)

This fund invests in US stocks, bonds, international equities and debt, exchange-traded products and mutual funds. It also has exposure to futures contracts on raw materials.

The five classes of this fund—A, M, C, I and Z—have varying expense ratios, ranging from 0.64% to 1.69%.

Fidelity Advisor Macro Opportunities Fund (FAQFX)

Like the Risk Parity Fund, the Macro Opportunities Fund has five classes: A, M, C, I and Z, with different expense ratios per fund class. These range from 0.80% to 1.85%. It also aims to offer investors diversification from the traditional 60%/40% stock-to-bond portfolio.

The Macro Opportunities Fund differs from the Risk Parity Fund in that it incorporates more leverage and uses a combination of long and short positions across asset classes. These strategies ensure that it is minimally correlated with traditional stock markets.

Other asset managers are following Fidelity’s lead

Aside from Fidelity, other major financial institutions, such as BlackRock and Invesco, have been creating more alternative mutual funds. Some of these focus on specific and popular niches such as blockchain or ESG.

For example, BlackRock recently launched its iShares Blockchain and Tech ETFs IBLC. This ETF invests in US and foreign companies involved in blockchain development and innovation, along with crypto-based technology.

Some of his largest holdings include Coinbase Global Inc. COIN i Marathon Digital Holdings Inc. MARA. Unlike other actively managed ETFs, it has a relatively low expense ratio of 0.47%.

Aside from blockchain, ESG is another growing niche. It is becoming even more popular due to a growing interest in environmental sustainability and social causes.

A third of Millennial investors and 19% of Gen Z investors prefer to invest in companies that promote positive social change, innovation and sustainability. Some familiar names like Microsoft Corp. MSFT i Apple Inc. AAPL qualify as ESG companies.

While companies must meet many standards to be considered ESG, the main ones are that the company does not engage in business activities in the following industries: alcohol, cannabis, weapons, gambling, nuclear power, oil and gas, and tobacco

The Invesco ESG NASDAQ 100 ETF QQMG tracks the Nasdaq-100 ESG index, and some of its holdings include Apple, Microsoft, DocuSign Inc. DOC i Zoom Video Communications Inc. ZM. Being an index fund, it has a relatively low expense ratio of 0.20%.

In addition to this ETF, which launched in late 2021, Invesco offers other ESG ETFs, including the ESG Nasdaq Next Gen 100 ETF QQJG and the ESG S&P 500 Equal Weight ETF RSPE.

Traditional brokerages are increasingly creating unique alternative investments

The world and markets are changing rapidly. Traditional investment strategies like the 60% stock/40% bond portfolio are becoming increasingly outdated, especially as this model is forecast to have its worst quarter since 2008.

New industries such as blockchain and ESG offer more opportunities for innovation and investment, which explains why BlackRock has launched its iShares Blockchain and Tech ETF.

Other funds such as the Fidelity Macro Opportunities Fund are being used to provide diversification from standard asset classes such as US stocks and bonds, which have posted significant losses this year.

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