Amidst sharp volatility following a summer of financial crisis in Europe and fears of a double-dip recession in the U.S., advisors are increasingly turning to alternative investments to help shore up clients' portfolios.

A new survey finds that 68% of financial advisors have boosted their use of alternatives since the Crash of 2008, with 22% saying their use has "increased substantially" in the last five years.

Moreover, 67% of advisors say their alternatives allocation will continue to rise (with 11.1% saying it will "increase substantially"), according to the survey of 500 financial advisors by Jefferson National released in September. And more to the point, 61.5% believe that alternatives will be an even more important part of portfolios than traditional assets.

Not surprisingly, they aren't getting much argument from the alternatives experts, even as those experts acknowledge that alternatives are not a panacea for bear markets.

Of the myriad hedge fund strategies available, only global macro and managed futures were universally proclaimed to have performed well, profiting and protecting clients' wealth in the ugly days of July and August. "Anybody trying to do active management was punished," says Adam Taback, president of alternative strategies at Wells Fargo. August saw hedge funds posting their biggest monthly declines since May 2010, as the HFRI Fund Weighted Composite Index shed 2.3%. That knocked the year-to-date performance for the broad-based composite index to a loss of -1.2%.

Yet the experts say alternatives, long the province of the highest-net- worth individuals and deep-pocketed institutions, should be in every investor's portfolio. And in larger slugs than the 10% to 15% recommended for many years. Many throw around figures like 20% to 30% of a portfolio; some say as high as 40%. The good news is these strategies have been going through a process of democratization recently. Fees are coming down, and some strategies are becoming available to retail clients via mutual funds. So more investors can now buy alternatives. But should they?

It's the Correlation, Stupid

The experts all tout alternatives' relatively low correlation to traditional assets, including the stocks and bonds that constitute the heart of most portfolios. For decades, modern portfolio theory dictated diversification to cut volatility and balance risk with returns. And a diversified portfolio meant domestic equities, in large-, mid- and small-caps, as well as overseas stocks from developed and emerging economies, fixed income and some real estate.

The idea being if one of those components stumbled, the others would take up the slack. But over the last five years, these traditional asset classes have seen their correlation to the S&P 500, the core of most portfolios, go up, meaning if one stumbled, they all stumbled. For example, small- and mid-cap U.S. stocks have correlations to the S&P 500 north of 90%.

Even for international stocks, in both the developed and emerging markets as well as real estate, that number is higher than 75%. With the exception of fixed income, the traditional portfolio components are nearly perfectly correlated.

Yet over the same five-year period, managed futures, an alternative strategy that follows market trends, had a negative correlation (-6%) to the S&P 500. (See chart.) This trend of increasing correlation in traditional assets is especially marked in times of increased market volatility, like the 2008 credit crisis and the recent market swoons, according to Sam Aspinwall, alternatives expert and half of a financial advisory team at Raymond James specializing in executives. Until this January, when he and his partner Scott Warnock started their advisory business, they were strategists in the Raymond James Wealth Solutions/Alternative Investments Group.

Aspinwall notes that alternative strategies include nontraditional asset classes like currencies and commodities, as well as different methods of playing in traditional asset classes, like long/short and arbitrage strategies.

He concludes that retail clients must change with the times, take a page from institutional investors' playbook and use alternatives. "Back in the 1990s and before that, holding traditional asset classes was the way people attacked diversification. But today there are higher correlations between countries and traditional asset classes, and clients have to find ways to get more noncorrelated exposure," he said.

Higher correlations between markets are not just making investors' portfolios look less diversified. Higher correlations within a given market, such as the S&P 500, prevented a lot of managers, including those operating in the alternative space, from adding value in the recent market turmoil, according to Michael Crook, head of portfolio advisory at UBS' Wealth Management Americas Group. He notes that between 1980 and 2007, the average intramarket correlation for U.S. large-cap stocks tended to be in the range of 0.2 to 0.5. Since the financial crisis began in 2007, that number has been above 0.6, usually in the range of 0.7 to 0.8. That means it's very difficult for managers to add value by picking one stock over another within the S&P 500.