by Tom Anderson, CEO & Founder, PENSCO Trust Company

Most if not all financial advisors and planners are interested in looking at a client’s entire portfolio rather than just finding a few new investments to buy as standalone investments. Even if he wants to steer his client toward a great opportunity, the advisor usually (or should, given the rules around “know your customer”) take the time to understand the client’s existing portfolio as well as risk tolerance, time horizons and financial goals and objectives. It’s accepted that diversification and asset allocation (in a pure, Modern-Portfolio Theory sense) have been proven to increase long-term rewards and reduce short-term risk. Additionally, clients who achieve their goals with limited or manageable risk are happier clients. Therefore, it makes sense for financial advisors to think outside their routine “box” of investments and be aware of all the ways to offer their clients true diversification.

Advisors are recognizing that true diversification actually extends a beyond a portfolio that holds even a carefully balanced array of investments across the usual universe of small-, mid- and large-cap, domestic, foreign and fixed income vehicles. There are a wide variety of what are called “alternative” investments that include things like mortgage deeds or notes, real property, liens and foreclosures, hard-money lending and private equity investments. Granted, these investments usually require a special asset custodian to service and administer them as there are additional rules in addition to the existing restrictions governing IRA and retirement investing. These accounts are called ‘self-directed’ accounts as the client usually has more control and a choice from a wider range of investment options, as well as a corresponding increase in the level of responsibility in adhering to rules and regulations.

The reason that prudent advisors should investigate or be aware of the opportunities outside of market traded assets that are available within self-directed IRAs is that these assets typically have no or low correlation to the financial markets. This means that they can provide more diversification in a portfolio while giving the client more investment options overall. Additionally, although these assets are considered “alternative” investments, American investors have a significantly larger percentage of their net worth in both real estate (their homes or investment properties) and private equity (for the self-employed) than they do in more “traditional” investments. Many investors have a better understanding of alternative investments and, therefore, may feel more secure in “buying what they know”.

For this reason, and with the client’s success as the goal, even if the advisor doesn’t actively sell a certain type of asset, he should at least be aware of other investment options and ideally be able to refer his client to someone who does. I like to use the analogy of an individual who is having a problem with his foot and asks his internal medicine/general practitioner doctor for help. If the doctor then refers him to a podiatrist who cures the problem, who do you think he is going to consult when his next health problem arises? As with most business transactions, having the client’s best interest in mind will usually pay dividends in the long run. Begging ignorance or lacking the necessary knowledge to be helpful may lead your client to find other resources.

But then again, we all still need to be paid for services. There are ways to be involved in the process, depending on the advisor’s business model and structure with their clearing broker/dealer firm. Many fee-based financial advisors are able to include their clients’ alternative assets (such as real estate, private equity, etc.) as part of their clients’ overall portfolio assets and thereby collect advisory fees. Additionally, some advisors who aren’t structured this way maintain referral relationships with local professionals who co-refer and sometimes co-market their services—professionals such as attorneys, CPAs, real estate or mortgage brokers, etc. Sending business you can’t handle directly to other professionals can frequently lead you to many fruitful reciprocations from those professionals. And because self-directed IRA investments often require professional services from different specialists, many professionals actually build informal or even formal “teams” that will help service their joint clients for these investments, while sharing marketing expenses to attract new prospects.

Being aware of all permitted investment options can only help advisors service their clients more effectively—and in turn help them build their businesses. To find out more, search the Internet using “self-directed IRA” for custodians who handle alternative assets within self-directed IRAs. Some offer free education through seminars and several of the custodians’ websites contain valuable and information at no cost.

The foregoing is a general discussion. It is not intended as, and may not be relied upon as, tax, legal, investment or other advice. Readers desiring such advice should consult their own advisors.

Tom Anderson is the CEO & Founder of PENSCO Trust Company. For over 18 years, PENSCO Trust has provided premier service in the custody and administration of IRAs and retirement accounts invested in non-traded assets, such as real estate and private placements. Contact PENSCO Trust for more information at (866) 818-4472 or online at www.penscotrust.com.