There is a long list of alternative investments that separates them from long-only, publicly traded investments in stocks, bonds, and cash (often referred to as traditional investments). The phrases “conventional” and “alternative” should not be interpreted to mean that alternatives are uncommon or that they are relatively new to the world of investing. Real estate and commodities, which are probably two of the oldest types of investments, are examples of alternative investments.
Alternative investments also include unconventional ways to invest in specialized vehicles like hedge funds and private equity firms. These funds might enable the management to use leverage, and derivatives, invest in illiquid assets and take short positions.
These vehicles may invest in both conventional assets (such as stocks, bonds, and cash) and nonconventional assets. Alternative investment management strategies are often active. Many of the following traits are frequently found in alternative investments:
- Limited area of expertise among investment managers
- Returns have a relatively poor link to returns from traditional investments.
- Less transparency and less oversight than in conventional investing
- Historical risk and return statistics are scarce.
- Special tax and legal considerations
- Higher costs, frequently including incentive or performance fees
- Redeeming restrictions (also known as “lockups” and “gates”)
In addition to the more conventional long-only positions in stocks, bonds, and cash, other assets can be used. Hedge funds, private equity, real estate, natural resources, and infrastructure are the five primary areas of alternative investments.
Characteristics
A financial asset that is classified as an alternative investment does not fall within the traditional equity, income, or cash classifications. It includes things like real estate, commodities, hedge funds, private equity (like audax private equity) or venture capital, and tangible assets. The Securities and Exchange Commission (SEC) of the United States does not regulate most alternative investments as strictly and they are typically a little less liquid. Alternative investments, which were previously only available to accredited or institutional investors, are now accessible to retail investors through alternative funds.
Due to their complexity, lack of regulation, and level of risk, most alternative investment assets are owned by accredited, high-net-worth individuals or institutional investors. When compared to mutual funds and exchange-traded funds, many alternative investments have high minimum investment requirements and cost structures (ETFs). Additionally, there are fewer opportunities for these investments to promote to potential investors and provide verifiable performance statistics. Although starting minimums and upfront investment fees for alternative assets may be expensive, transaction costs are often lower than those for conventional assets because of lower levels of turnover.
Poor Regulations Thoughts
Due to a lack of restrictions, alternative investments are vulnerable to investment fraud and scams even when they don’t involve rare goods like coins or works of art. Alternative investments may fall under a less defined legal framework than traditional investments. Therefore, it is crucial that investors perform thorough due diligence when thinking about alternative investments. Some alternative products are only open to accredited investors. Those with a net worth of more than $1 million are considered accredited investors.
Fun Fact
Some alternative investments are only available to “authorized” investors, such as individuals having a net worth of at least $1 million or a yearly income of at least $200,000.
How an Investor Can Benefit from Alternative Investments?
Because alternative investments have a low correlation with the stock and bond markets and keep their value during a market slump, some investors look for them. Hard assets like gold, oil, and real estate are also reliable inflation hedges. In order to diversify their assets, many significant organizations, including pension funds and family offices, look to alternative investment vehicles.
