What comes to mind when you think of investing? Traditional investments include stocks, bonds, and cash. We think of great returns on Wall Street. However, individual and institutional investors turn to investments in alternative funds to diversify.
This article will discuss what counts as an alternative asset investment and the pros and cons. Follow this guide for understanding alternatives to traditional investments.
Let’s get to the following commonly asked questions:
Generally speaking, an alternative investment is a financial product differing from the standard investment solutions. Traditionally, investment decisions centre around stocks and bonds.
However, in today’s world, we have access to alternative investments. These might include private equity, hedge funds, managed futures, closed-end funds, or commodities. Plus, real estate investing is an alternative solution.
Primarily, only a high-net-worth individual or an accredited investor invests in alternatives. Because of their expense and high-risk nature, fewer individual investors begin with other options as they don’t have the net worth.
Important: The global investment shift to alternative investments is growing. Assets under management continue to expand.
An alternative investment product can cover a wide range of asset classes. However, there are a few key characteristics.
These investment characteristics aren’t exclusive to alternative investments. Yet, they’re identifying factors.
Why should you diversify your investment portfolio with alternative investments? The types of investors attracted to alternatives typically have a higher net worth and specialist knowledge.
Alternative investments are suitable because they maintain their value when the capital markets drop — similarly, some alternatives, like gold, or bitcoin, hedge against inflation. Accordingly, a pension fund or family offices might diversify with alternative types of investments.
Some alternative investments may lack regulatory clarity, which means that investors will be less protected. Therefore, investors must conduct due diligence when considering various alternative investments.
If you want to invest in alternative financial assets, consider the following.
Pros of alternative investments:
Cons of alternative investments:
Note: Higher-risk investments might not be for you if you're anxious about money. Ensure you research alternatives first.
While several characteristics unify alternative assets, these financial instruments still fall into diverse asset classes.
Firstly, decide what types of alternative investments you wish to pool your money in. The different classifications include:
Secondly, assess your risk level. Ensure you establish how much risk you are willing to handle. Some alternative investment strategies are more volatile than others.
Thirdly, research the market to minimise risk. It’s best to make sure that you understand the specifics of your alternative investment fund type
Let’s unpack the ins and outs of alternative investment opportunities.
Typically, private equity investments are when individuals fund private companies. These equity funds are not on the stock market, unlike public equities. Instead, they occupy private markets.
Private equities primarily fund smaller companies. A private equity investment might not necessarily be as risky as other alternatives.
Private equity markets aim to help new businesses grow. Investors enable the organisation to generate significant long-term profit by taking an ownership position.
The key to private equity is the relationship between investors and the company. Typically, the latter provides more than funds. They also offer industry expertise and mentorship.
Another private equity investment is when a private investor outright buys another company. Private equities can even buy public companies.
Venture capital is a subgroup of private equity. Rather than taking an ownership position, the investor provides corporate finance only to a startup.
The goal is to help the business grow, to sell it through acquisition or public offering. It’s a slightly riskier investment strategy.
Alternative credit refers to private financing to borrowers who cannot access funds by traditional means. Those who invest in private debt offer money to individuals or companies requiring capital.
Lending categories include direct lending, mezzanine, distressed debt, and special financing.
Alternative credit makes money through interest and loan repayments. As private lenders, investors can skirt specific regulations and offer different rates. Accordingly, the borrowers might also be at a higher risk.
Note: the borrower doesn’t have to be private. Public organisations can borrow from private lenders.
Investing in real estate is a great way to hedge against inflation. As real assets, or tangible assets, grow with inflation, it’s better for long term investment.
To invest in real estate, research the local property market. It’s best to find a property in an area with high capital growth potential. Investors make money in two ways: through rental payments and selling the asset at a higher value.
On the other hand, property investment requires management and upkeep.
Alternatively, pool your finances into real estate funds. Investment trusts choose to invest in residential or commercial real estate. Each comes with its risks and rewards.
Hedge funds are investment funds that use non-traditional strategies to maximise returns. A non-traditional strategy fund is typically aimed at wealthy individuals or professional investors.
As the funds investing are less restricted by what they can and can’t do, both risk and reward are higher. The investment management company might invest in a mutual fund using precarious strategies.
However, investors typically share the profit with the fund manager. For example, the fund investment manager might promise a 20% return. Once you hit this level, the fund manager might take a portion of the remaining profits.
A structured product usually involves fixed income funds. These might include dividend payments, derivatives, or credit default swaps.
Suppose you invest in alternative vehicles, like structured products. They can be complex. However, they offer investors tailored investments to suit their needs.
Note: Structured products are relatively new to the investment landscape.
We’ve taken a look at the different alternative investment financial derivatives. You could also invest in a commodity; for example, anyone could invest in gold, precious metals, fine art, or agricultural products.
Commodities are perhaps one of the oldest alternative investments. Humanity has been trading gold, silver, and natural goods for thousands of years.
Deciding to invest in alternatives depends on your investment objectives, financial situation, and risk management level.
It’s an excellent way to ensure portfolio diversification. Moreover, with products like natural commodities or real estate, investors protect themselves against inflation.
Typically, alternative investments are best suited to wealthy individuals or professional assets. As they are high-risk high-reward, they require a certain level of specialist knowledge. Additionally, more often than not, they need significant starting funds.
Important: If you’re considering entering the alternative investment market, speak to financial analysts to minimise risk.
Good portfolio management should include a mix of traditional assets and alternative investments. With protection against inflation and the chance of higher rewards, alternative investments are undoubtedly worth considering.
Alternative investments are more volatile and risky than their traditional counterparts. But, accordingly, they’re also perfect for high returns. However, ensure you research the market you want to enter.
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Disclaimer: The author is not a financial advisor and the information provided is general in nature and was prepared for information purposes only. This article should not be considered to constitute financial advice. Accordingly, reliance should not be placed on this article as the basis for making an investment, financial or other decision. This information does not take into account your investment objectives, particular needs, or financial situation.