Alternative investments are different from conventional ones, such as bonds and stocks. These investment opportunities are not as straightforward and are riskier than conventional types.
Alternative investments also have fewer regulations binding them, which is why they are better for people with high net worth or institutions. Alternative investments are also available in multiple types, with some being available on exclusive channels only. In most cases, people looking for alternative investments opt for private equity, real estate properties, art, and other collectibles. You may also need accreditation before getting access to an alternative investment. Other investment networks may not care about your accreditation.
Table Of Contents
- 1 How Alternative Investments Work
- 1.1 Alternative Investments Asset Classes
- 1.2 Alternative Investment and Real Estate
- 1.3 Private equity
- 1.4 Hedge funds asset class
- 1.5 Funds of funds
- 1.6 Structured settlements
- 1.7 Collectibles
- 1.8 Merits and Demerits of Alternative Investments
- 1.9 Alternative Investments Regulations
- 1.10 Are Alternative Investments Worth It?
- 1.11 Alternative Investment Strategy
How Alternative Investments Work
Alternative investments are never traded on public forums like stocks and bonds. They have two main classifications, namely private assets, and hedge funds. The former is usually less popular and more complicated than the latter. On the other hand, hedge funds are more available, but they don’t involve the use of traditional resources.
Typically, alternative investment assets will come at a higher cost than traditional investments like mutual funds or ETFs. You will pay more fees upfront but spend less on transaction costs. The performance of the investments is rarely available to the public as well. Don’t expect to see an advert for these opportunities in the public forum if you are an investor. Very few people are usually interested in alternative investment collectibles. As such, it may be harder for you to liquidate some of your real assets quickly. Most people also experience problems with alternative investment property valuation because of the rare nature of the asset classes. Additional characteristics of this investment type include:
- The investment requires a higher minimum investment.
- The risks involved in alternative types of investments are more unique and not easily understandable, unlike traditional investment opportunities.
- Despite the illiquid nature, you still get a chance of higher returns with this investment.
- The investments have longer lock-ups, which means the interests may not be easily redeemable.
- The structures are more complicated.
Alternative Investments Asset Classes
There are numerous types of investments in the private equity category that you can access for your portfolio diversification. You must do your due diligence to determine how well each alternative investment suits you and whether it works for your investment strategies. Some asset classes in this investment category are considered odd, but that doesn’t mean they can’t increase your net worth. You can consult investment professionals if you’re struggling to identify the real assets worth buying. The following types of alternative investments are some of the most popular options to consider.
Alternative Investment and Real Estate
The real estate asset class is one of the most popular alternative investments for high-net-worth individuals or private companies. Most people dream of owning at least one home in their lifetime, which makes owning an estate a real investment alternative that is perfect for most investors.
Real estate is divided into multiple asset classes such as farmland, timberland, and rental properties. All these options can bring in regular cash flow, which is why most individual investors prefer them. If you rent out the land or build homes to rent, you will be bringing in a steady income, like you would with traditional investments. For most investors, real estate investment has a low correlation with equity, which makes it great as a hedge against inflation. You can still generate income from your assets even if the economy changes.
The main challenge you will likely experience with real estate investment is market value determination. You can try to get a more accurate valuation using income capitalization or any other that suits you. You must also know when each valuation method is applicable to ensure you give the asset enough time for capital appreciation.
The real estate investment you venture into should also depend on whether you want to flip the property or hold on to it as it increases its value. Alternatively, you could join real estate investment trusts and help other investors achieve their dreams. Whatever investment alternative you choose, you will still increase your net worth tremendously.
Private equity can allow you to get shares in a company that isn’t listed by the securities and exchange commission on any public stock exchange platform. The private equity class is subdivided into other categories.
The first one is venture capital, also known as angel investing. It provides solutions to businesses looking for venture capital funds while still at the early stage. Startup business owners or those who haven’t succeeded in getting started but have everything else worked out may need help with funding. As an investor who wants to increase their investment portfolio, you can provide the required funds for a stake in the business.
The other category is growth capital, which involves investing in established private companies that want to expand or diversify their products and services. In some cases, this type of investment may involve a restructuring of companies. Either way, you stand to increase your alternative assets by investing in them.
The last option is a buyout. Investment professionals looking for long-term access to steady cash flow may consider this option more than the other two. It is a great way for individual investors to own real assets and achieve portfolio diversification.
Each of these options has its benefits and downfalls. For instance, venture capital may fail due to its new entry into the market. You will also need a great user experience with the other two to ensure the business venture continues yielding great results. Consider each option carefully.
You must also remember that a private equity venture can only be successful if the seller and buyer have a good relationship. As an investor in such equity, you need to offer expertise, mentorship, and other skills in addition to the capital you’re providing. That is the only way you will build a better relationship and eliminate inefficiencies that could hinder you from getting the net worth you desire.
Hedge funds asset class
For most experienced investors, hedge fund investment vehicles are meant to bring in revenue if traditional investments fail. The asset class is usually very liquid, especially when investors use several hedge fund strategies that can bring in high ROI. You can look for fund managers that are conversant with various skills, such as long-short equity, volatility arbitrage, quantitative strategies, and market neutral at a hedge fund site. In most cases, only institutional investors can invest in hedge funds. Examples of hedge funds are pension funds and mutual funds. However, high net worth individuals can also be allowed to invest in the asset class, especially if they are accredited, investors.
Typically, hedge funds are more sophisticated than stocks, bonds, and cash investments, or any other private equity. The funds are usually from a collection of accredited investors that pool their resources and create strategies that limit losses and increase returns. The funds can be invested in any of the alternative investment categories available, which is why the class is called an investment vehicle. In some instances, you may not know what your money is being invested in, which increases the risk levels. Even so, this alternative investment is still the best way to hedge against inflation.
Funds of funds
Very few individuals can afford to invest in funds of funds alternative investments. You will need hedge fund managers for this venture, but choosing one isn’t easy. The previous success by a manager isn’t always a sign that they will handle future investments successfully. Despite the risks, this is still a good way of making more money than you would normally acquire as an individual investor.
Structured products are new compared to other alternative investments. They are usually susceptible to inflation and may not bring you the returns you want. This investment alternative involves crafting payment plans that are suitable for the issue at hand. In most cases, there is a contractual agreement between the investor and the beneficiary of the funds. You can take them to court if they fail to pay back the whole amount.
In other cases, investors sign a contract with insurance companies or other entities, guaranteeing that they will have all their money back with interest. There is a payment schedule that must be followed, but if you are more interested in liquid alternative investments, this isn’t a good option.
Art, wine, coins, and vintage cars are some of the examples of collectibles. Investing in this class means buying assets that are likely to appreciate over time and waiting until that happens before selling them. Although most collectibles are usually mass-produced, they still have high purchase prices. Others, especially art, can be rare, which makes them more interesting and valuable from the time you acquire them. Another risk involved with this class of alternative investments is that investors can lose the property before it’s time to sell. These products are usually destructible. You have to invest in proper storage areas with the right storage conditions to keep them from being destroyed. Additionally, you may have to wait up to 50 years before you can sell off the collectible for a good profit.
You need the experience to invest in this class successfully. Only a high level of expertise can result in great returns from this investment. You should also invest in products you value – those that will make you happy even if they remain in your possession forever. You can find a collectible on a site like Getty images or from other collectors.
Merits and Demerits of Alternative Investments
- Alternative investments are a great way to achieve portfolio diversification or increase net worth. Even though they have a low correlation to traditional markets, the correlation isn’t always negative. There’s always a chance that the alternative assets may not do well during inflation, but that chance is very minimal.
- The alternative assets available in this category aren’t usually available in public forums. As an investor, you may get unique assets and investment opportunities that could yield very high returns.
- Investing in non-traditional assets also has the potential to provide very high rewards. The more unique an asset is, the higher the chance it could have a high market value after several years.
- These investments can be illiquid for a very long time. You may have to wait several years before you can liquidate some of the products and get cash.
- The investments are sometimes too complex. You must do your due diligence before investing in any asset class. Make sure you research the opportunity and do a background check on the fund managers you want to work with.
- The unregulated nature of the investments makes them high risk.
Alternative Investments Regulations
Investors in the alternative sector usually have to follow different rules from those in the traditional sector like stocks, bonds, and mutual funds. The exchange-traded investments in the public domain are usually regulated better than those in the private sector. In most cases, the practices by investors in the alternative sector are exempted from scrutiny by the Securities and Exchange Commission. The exemptions that alternative investors enjoy sometimes enable fund managers to maximize their leverages. On the other hand, it exposes investors to high levels of fraud and investment scams that can reduce the net worth.
You must be careful when looking for an alternative investment. Even in cases where only accredited investors are given investment opportunities, you must carefully weigh your options. If you have a net worth of over $1 million excluding your house and you generate at least $200,000 every month, you belong in the accredited investors’ category. You will get more unconventional investments to consider.
Are Alternative Investments Worth It?
The decision to invest in alternative assets usually depends on personal goals and potential returns. However, most personal and institutional investors invest in them because of:
Some investments usually have tax exemptions that can help investors save a lot of money in the long-term. Some investments also have more favorable tax regulations than others. The more you engage in alternative investments, the more your chances of getting one of the investment options with tax credits or tax carryforwards.
Sometimes market changes can make alternative investments more attractive, which is great for long-term investors. For instance, changes in the economy can cause the value of properties to drop, making them a great opportunity for high net worth investors. You can purchase these assets and wait for the market to stabilize before selling them at a profit.
Some investors are usually attracted to specific investments because of their intellect. For instance, if you specialize in venture capital, investing in businesses that are starting up will bring you more fulfillment than any other investment. You can weigh all the alternative investment options and access the one that appeals most to your intelligence.
Asset class control
Some investors prefer to have control of specific asset categories. Some may like traditional options like stocks and bonds, but others may be more inclined towards real estate or collectibles. Whatever you like, investing more in that area may be a good idea for you. Just remember to consider the liquidity of the assets and your chances of needing cash flow when making a choice.
Another good reason to consider investing in an alternative asset is if your skills match the investment strategies required for that class. It will be better to put your skills and tools to good use and capitalize on your returns, rather than taking a chance on an opportunity you don’t understand
Alternative Investment Strategy
Alternative investments are great tools for portfolio diversification and protection against inflation. However, the illiquid nature of hard investments can reduce the value of paper money. The best investment strategy is to have a portion of the portfolio in soft investments like hedge funds. Having a portion in the liquid alts such as exchange-traded funds is also possible and is a good strategy, especially for non-accredited investors.
Alternative investments can sometimes be volatile, which can result in the loss of your private equity fund. Investors may not be obligated to be transparent, and the complicated tax structures may result in information delays. On the other hand, private equity investments have several benefits, such as diversification and potentially high returns. You have to compare the benefits and potential disadvantages of each alternative asset class before putting in your money.