Varied Investor is your guide to all of the different types of alternative investments available for investors of all ages, risk appetites, and interests. Our goal is to provide transparent information about alternative investments that will allow you to discover which investments you want to look into further. Please perform your own due diligence and consult the appropriate financial professional before undertaking any investment decisions.
What are alternative investments?
Alternative investments are essentially any investment that does not fit in the “traditional” investment sense. When we speak of traditional investments, we’re referring to the most common, that being stocks, bonds, index funds, and mutual funds. These are all investments that are commonly held by the majority of individuals, and the most common understanding individuals have of “investments”. However, there are hundreds of other types of investments that can offer tremendous upside potential, as well as lucrative income opportunities.
Why alternative investments?
Diversification! If you follow the old adage “don’t put all your eggs in one basket” – this should make total sense. The more diversified you are, the better you are able to withstand market downturns and other negative events having material effects on traditional investments. Diversification allows investors to reduce risk, while potentially increasing returns at the same time. Alternative investment performance will often vary from the performance of stocks and bonds in the same timeframe. Some investments can provide protection against inflationary forces that reduce the purchasing power of cash.
Today has never been a better time for retail investors – non-professional investors, who aren’t large institutional investors – to start investing in alternative asset classes. The internet and various platforms have provided significant opportunities to get in on the ground floor of alternative asset investing.
An increasing number of institutional investors, pension funds, and asset managers have been adding alternative investments to their investment strategies in recent years.
Some investors still think of alternative investments as an exclusive, narrowly defined class of investments, but Alternatives come in a variety of packages, and can be a powerful tool that help investors achieve greater diversification, dampen volatility and boost returns.BlackRock Inc. – Global Asset Manager with over $7 trillion assets under management
Benefits & risks of alternative investments
As with any investment, it’s important to weigh both the benefits and risks, and apply them to your personal circumstances to determine whether this makes sense for your portfolio.
Risks of alternative asset investing
- Investor protections: Alternative investments often aren’t provided the same protections given to traditional investments. Many countries back their financial markets through deposit insurance or other means, giving investors some certainty of the ability to recover funds should their brokerage go under. Alternative investments do not offer such protections and are much less regulated overall.
- Illiquidity: Alternative investments are furthest from cash, when compared to their traditional investment counterparts, like stocks and bonds, which can usually be converted into cash fairly simply. It is often much harder and lengthier to exit an investment and convert an alternative investment back into cash.
- Information transparency: Traditional investments are required to provide a certain level of financial disclosure – whether this is in the format of quarterly and annual financial statements, or other releases of pertinent material information. Most alternative investments do not carry the same disclosure requirements, and often have less information available to analyze before making an investment.
- Complexity: Alternative investments provide a number of different structures by which their capital is appreciated and cash flows are generated. This often provides more layers of complexity in the nature of the investment. Investors must be prudent to understand the structure of the investment they are getting into, to fully understand the risk profile of that investment.
Benefits of alternative asset investing
- Source of income: Alternative investments can be a significant source of consistent income for some investors in certain asset classes, and often with higher income yields than traditional investments.
- Wealth creation & growth: Alternative assets provide an opportunity for investors to access tremendous growth. Certain assets produce returns not possible in the traditional stock market. An alternative asset investing strategy can aid in generating wealth, in addition to sustaining and growing wealth.
- Reduce portfolio volatility: Alternative assets minimally correlated with traditional asset classes are a great way to reduce overall portfolio volatility often associated with cyclical market conditions.
- Diversification: As already mentioned, but worth mentioning again, diversification is one of the primary reasons to invest in alternative assets. With hundreds of different alternative investment vehicles, an investor could incorporate dozens of different income sources into their overall portfolio.
Common alternative investments
Listed here are a few examples of common alternative investment classes, some of which you may already be invested in without being aware of!
- Real estate
- Private equity
- Commodities (precious metals, oil, agricultural)
- Collectibles (luxury goods, artwork, antiques, wines & spirits)
- Digital (cryptocurrencies)
There are various investing opportunities in real estate. The most common involves buying properties, renting the properties, and then subsequently selling the properties at a higher price due to capital appreciation. This type of real estate investing is usually not passive, and often requires the investor to be active in the management of their properties, acting as the landlord.
There are other opportunities in real estate that provide a more passive approach, such as investing in Real Estate Investment Trusts (REITs), which are investment vehicles that manage investor capital by buying, holding, and leasing real estate. Investors can invest in REITs that meet their specific needs, such as by focusing on REITs owning either residential or commercial real estate, or a combination of both. REITs produce consistent income and distribute income to investors.
In recent years there has been a steady rise in online real estate crowdfunding platforms, providing private investors access to institutional quality real estate investments beyond traditional public market offerings. Investors can invest as much or as little as they want with these new proportional investing opportunities.
Private equity (PE) involves direct investment into private companies. Private companies are those not listed on a publicly traded exchange. PE can also involve buyouts of public traded companies, and delisting the stock from public markets. There are various types of PE:
- Distressed funding: investing in troubled companies with the intent to turn them around and capture the upside of the investment
- Leveraged buyouts: the use of debt financing to purchase company, improving the operations and then subsequently selling the company for a profit
- Venture capital: providing capital to startups and entrepreneurs in exchange for a percentage of ownership in their venture, and sometimes providing business expertise with the hope that the venture eventually becomes successful and profitable, and perhaps become the target of a large buyout by another company. Venture capital investors focus on the long-term growth prospects of their investments.
Commodities are basic goods treated as economically equivalent regardless of who produced the goods. Commodities include precious metals such as gold and silver, oil, and agricultural goods, such as wheat, grains, sugar, livestock, cotton, and dairy. While investors can choose to invest in commodities by physically buying and holding them, such as by purchasing gold bars (bullion), most investors can indirectly invest through exchange traded funds (ETFs) or indexes tracking the prices of these commodities.
Collectibles include things like artwork, alcohol and spirits, antique vehicles, antique furniture, coins, stamps, and luxury goods. These are all assets that have the potential to increase massively in value. Investors interested in antiques and collectibles should make themselves aware of the typical valuations in this space, and the best methods for assessing asset values. Take the Hermès Birkin for example, which was sold for $380,000 in an auction.
Digital assets are on the rise in recent years, and include cryptocurrencies, like Bitcoin and Ethereum, as well as web assets like websites, social media accounts, online stores, and domain names. These assets have tremendous potential to provide significant returns in the future, and are worth looking into.
As with all financial decisions, investors must be prudent to undertake significant due diligence and research before making investments in alternative assets. However, the ever-changing global landscape suggests that the traditional split of stocks and bonds may no longer be the most optimal long-term investment strategy. Trends such as technology innovation and adoption, urbanization, and globalization are increasingly pushing institutional investors to consider alternative investment strategies. Any retail investor with an appetite for risk wanting to diversify their portfolios may wish to consider incorporating alternative investing strategies into their portfolios. As with all investments, higher risk provides an opportunity for a higher return.