Definition of alternative investment: An investment in any asset class other than stocks, bonds, and cash. Alternative investments are contrasted with traditional investments.
Types of alternative investments
Tangible assets: Examples of alternative investments include physical items such as fine art, wine, jewelry, precious metals, and collectibles such as coins, stamps, and cards.
Non-tangible (financial) assets: Alternative investments can also be financial assets such as real estate, private equity, hedge funds, cryptocurrency, commodities, and non-fungible tokens (NFTs).
Key differences between traditional investments vs. alternative investments
Now that you’ve got a basic understanding, let’s talk about the differences between traditional investments and alternative investments. Take a look at this chart from BlackRock:
The benefits of alternative investments
With 87% of private investors planning on maintaining or increasing their allocation to alternative investments (Source: Connection Capital survey, 2020), it’s important to understand the reasons that interest in alts is on the rise. Here are three key benefits:
Mitigate stock market volatility: It’s no secret that the stock market has been a huge source of investor anxiety, with record-breaking volatility over the last year. One huge benefit of alternatives is that they are generally un-correlated to the ebbs-and-flows of the stock market. This means that even if your stock portfolio is taking a hit, your alternatives should remain stable, or even profitable, during this time.
Portfolio diversification: Hand-in-hand with mitigating stock market volatility is portfolio diversification. Alternatives offer a great way to diversify your assets, so that if one area, such as stocks, is taking a hit, your entire portfolio won’t go down with it. Long story short: Don’t put all your (investing) eggs in one basket.
Higher ROI: While higher returns are never guaranteed, many investors are attracted to alternatives because of their potential for much higher return than the stock market. From 2000 to 2020, private equity investments outperformed the S&P 500, producing returns of 10.48% compared to 5.91% (Source: Cambridge Associates).
The downsides of alternative investments
So if alternatives go against market declines, offer strong portfolio diversification, and higher return rates, then why doesn’t every investor allocate money to alternatives?
While certain alternatives such as cryptocurrency have become more mainstream and accessible to the average investor, thanks to platforms such as Coinbase and Robinhood offering fractional shares, other alternatives aren’t so easy to get in on.
High investment minimums: Alternative investments such as private equity and hedge funds are inaccessible to investors other than the ultra-wealthy, as they require minimum investment requirements as high as $25 million, and the “low” end being somewhere around $250,000. The numbers speak for themselves: Most people simply cannot afford to invest in these types of funds.
Lack of direct access: Another roadblock is the lack of direct access. Even if you can afford to meet investment minimums, an asset manager serves as the middle man between the investor and their returns, and, you guessed it, there’s a high price to pay.
High management fees: The most common fee structure is 2 and 20, i.e. 2% management fee, and 20% fee on profits. But some funds charge even more, and investors just aren’t willing to pay such high fees for 20% of their profits to be taken away from them.
So, with rising investor interest, will private equity and alternatives in general become more accessible any time in the future? That’s what we’re doing.
Click here to get started managing your alternative investments for free today.