(Bloomberg) — Wall Street calls it a golden age for alternative assets. Richard Ennis, who spent decades helping pensions and endowments devise modern portfolios, calls it a costly delusion draining billions from portfolios — one that will come undone in the coming decades.
For years, the pitch to institutional investors has been the same: passive returns on stocks and bonds are fine as they go, but to thrive money managers need hedge funds, private assets and other alternative vehicles. Yet after dissecting the data, Ennis — who helped pioneer the art of investment consulting — finds there is surprisingly little evidence it’s true.
The industry skeptic advised major US institutions through a consulting firm he co-founded, later acquired by Hewitt Associates. The retired 81-year-old sees a world awash in complex products, from venture capital to private equity, whose fees, he says, erode any benefit in returns or risk reduction. What’s left is a “costly and wasteful” business whose big trick has been to convince allocators they’ll be kicked out of elite circles if they question the magic of alternative investing.
“Alts bring extraordinary costs but ordinary returns — namely, those of the underlying equity and fixed income assets,” he writes in a study to be published in the Journal of Portfolio Management, titled The Demise of Alternative Investments. They “cost way too much for what you get. It’s that simple.”
Ennis finds big endowments in his study — estimated to hold 65% of assets in alternative investments — fare worse than pensions, which have a 35% exposure. When compared with a market index that he designed with a specific stock-bond mix to mimic funds’ risk profile, endowments have trailed by 2.4 percentage points annually in the 16 years through June 2024. Over the same period, pensions undershot their benchmark by 1 percentage point a year.
Ennis, a former executive editor at the Financial Analysts Journal, resurfaced from retirement in 2019 with a memoir Never Bullshit the Client: My Life in Investment Consulting. He’s part of a small band of contrarians who rail against the top tier of money management, as a ruse designed to separate money from the gullible.
“He’s kind of a crusader,” says Rich Weiss, chief investment officer for multi-asset strategies at American Century Investment Management. “He’s been on this rant for several years now.”
Yet billions of dollars keep flooding the likes of multi-strategy hedge funds and private-market firms with KKR & Co. partner Alisa Wood calling it a “golden age” for the asset class. Firms are repackaging these strategies for retail investors via exchange-traded funds and semi-liquid vehicles.
It’s been a contentious second act for the octogenarian, whose days were previously taken up with “beach combing, beer drinking, pool and ballroom dancing” on Sanibel Island, Florida. Urged out of retirement by a son and encouraged by Nobel laureate William Sharpe, Ennis returned to the economics of institutional investing. The first paper came in 2020, decrying fees paid for exotic exposures like natural resources and infrastructure.
“The work has gotten a tremendously favorable reception among investment professionals. The current paper is selling like hot cakes,” he says in an interview. “From the endowment-pension world, hardly a peep.”
In the new study, Ennis takes a top-down statistical approach to measure how hedge funds, private equity and other alternative strategies affect overall portfolio performance compared to a stock-and-bond mix. He ranks funds by allocation to those managers. The more they do, the more they trail, his data show.
“The margin of underperformance is suspiciously similar to the amount of alts’ expenses,” he notes.
A host of objections exist to his conclusions, including that they are too focused on gains and losses rather than risk management — a view Ennis rejects. Another issue is the period under review. Ennis’s study starts around 2009, the beginning of explosive rally when stocks outshone virtually every other asset class. Criticizing hedge funds and their brethren for doing worse over that span strikes some as cherry picking — stacking the deck by looking at years in which everyone knows the market was nearly impossible to beat.
“The return, outperformance, or under-performance, is episodic. Over the last 20 years, most alts have not done very well, but in the prior 20 years, they did very well,” says Weiss of American Century. “I’m not sure they’re dead or not worth incorporating because who knows when that outperformance is going to come back.”
Any critique that condemns alternative management strictly on a profit-and-loss basis is apt to be rejected by industry advocates. While appreciation is important, what matters more is avoiding big drawdowns and ensuring steady gains that allow them to meet retirement liabilities or planned spending, the argument goes. In a 2024 study by Preqin, a range of reasons were proffered in favor of alts, such as offering uncorrelated returns to public markets and inflation hedging. Preqin’s latest estimate shows that industry assets were sitting at about $17 trillion at the end of 2023, growing to $29 trillion by 2029.
Ennis expects cheap, passive investing to gradually spur the slow demise of the alts empire over 10 to 20 years. For now though, he argues that industry incentives like fees sustain it more than performance does. Institutional managers and consultants, he says, benefit from the perception of sophistication: the more complex the portfolio, the greater their perceived value — and compensation.
“The agents, CIOs and consultant-advisers, have been perfecting their act over the years,” Ennis said in an email. “They have mastered the black art of custom benchmarking. They are doing nothing to bring about better valuation of assets.”