Understanding The Pros And Cons Of Alternative Investments

In today’s dynamic market environment, some investors may be looking beyond stocks and bonds for other options for investing their money. This search for other options may lead to alternative investments.

Alternative investments are investments outside the stock and bond markets, and may include real estate, private equity, hedge funds, digital assets, and may include investments offering to these financial instruments such as cryptocurrencies, commodities, precious metals and art or collectibles. These types of investments tend not to be correlated to the performance of stocks and bonds, and may offer the potential for higher returns, but typically with higher risk.

Here is an overview of what you need to know before investing.

Potential Upsides of Alternative Investments

Potential reduction in overall volatility. Since their performance are historically low to moderate correlation with market indices, alternative investments may help to reduce overall volatility within a portfolio of traditional investments.

Diversification. Alternative investments typically help provide diversification across different markets, strategies, managers and investment styles.

Potential for increased performance. Like any investment, the rate of return for alternative investments is not guaranteed. However, according to a study called “The Rate of Return on Everything, 1870-2015,” which looked at performance across 16 advanced economies over a period of 145 years, residential real estate provided the best returns. 1

Potential Downsides of Alternative Investments

Illiquidity. Alternative investments tend to be private, rather than public, and they are generally less liquid, typically with reduced liquidity ranging from monthly to 12+ years, so they may be difficult to exit and your money may be tied up for an extended period of time.

Lack of regulation. Alternative investments are not regulated and are not subject to reporting requirements. In addition, the underlying assets of alternative investments are often difficult to value, which leads to challenges in pricing and price transparency.

High minimum investments. Many alternative investments carry high minimum investments, and may not be available to all investors. In addition, alternative investments generally carry higher fees.

Complexity. Alternative investments are often complex instruments and may require a higher level of due diligence. If you are considering alternative investments, you also want to be sure that you research and understand the potential tax implications associated with them.

In the past, alternative investments were reserved for the domains of institutional and high-net-worth investors. However, in recent years, alternative investments have grown in popularity and are making their way into the portfolios of individual investors. Like all investments, alternative investments come with both benefits and risk. Before taking the leap into this sector, consult a Financial Advisor with experience in alternative investments who can help you determine whether this type of investment is right for you.

By Craig Franklin, Top Advisor