Strategic alternative investments can diversify your portfolio beyond traditional stocks and bonds and provide the potential for higher returns. However, more attention is needed for risk management when investing in them and accessing alternative investments can be more difficult compared to their stock market-based counterparts. Each type of alternative investment carries unique risks and rewards, requiring thorough research and possibly even the guidance of a financial advisor.
1. Hedge Funds
Hedge funds are pooled investment funds that use various strategies to generate returns for investors. They can invest in a range of assets, including stocks, bonds, currencies and derivatives.
Hedge fund managers use sophisticated techniques, such as leverage and short selling, to achieve their investment goals. These funds aim to provide positive returns in both rising and falling markets, making them an attractive option for investors looking to hedge against market volatility.
However, hedge funds typically require high minimum investments and are less liquid than traditional investments. Further, they are often only available to accredited investors, which entails having a certain minimum net worth and income.
2. Commodities
Commodities include tangible assets like gold, oil, natural gas and agricultural products. Investors can gain exposure to commodities through direct investment in physical goods, futures contracts or commodity-focused funds.
Investing in commodities can provide a hedge against inflation, as their prices often rise when the cost of living increases. However, the price of commodities can be highly volatile due to factors such as geopolitical events, weather conditions and changes in supply and demand.
3. Private Equity and Venture Capital
Private equity and venture capital involve investing directly in private companies. Private equity funds generally invest in established companies, often with the aim of restructuring or expanding them. Venture capital, on the other hand, focuses on early-stage companies with high growth potential.
These investments can offer significant returns, but they also come with substantial risks — including the possibility of total loss. Further, both private equity and venture capital investments are typically illiquid and require a long-term commitment.
4. Structured Products
Structured products are pre-packaged investment strategies based on derivatives. They can be tailored to meet specific investment objectives, such as capital protection, income generation or enhanced returns.
Structured products typically combine fixed-income assets like bonds alongside additional investments to offer customized risk-return profiles. These products are complex and may involve various underlying assets, including equities, indices, currencies and commodities.
While structured products can provide attractive benefits, they also carry risks — including credit risk, market risk and liquidity risk.
5. Private Debt
Private debt refers to non-publicly traded debt investments, including direct lending to companies, mezzanine financing and distressed debt.
Investors in private debt can earn returns through interest payments and capital appreciation. This type of investment can offer higher yields compared to traditional fixed-income securities, due to the higher risk associated with lending to non-public entities.
Private debt investments provide diversification benefits and can be particularly attractive in low interest-rate environments. However, they also carry risks such as credit risk and liquidity risk, as these investments are not as easily traded as public debt securities.
6. Real Estate
Real estate can generate income through rental payments and offer capital appreciation over time. Investors can gain exposure to real estate through direct property ownership, real estate investment trusts (REITs) or real estate funds.
Real estate investments can provide a hedge against inflation and add diversification to a portfolio. However, investing in real estate also comes with risks, including market risk, interest rate risk and property-specific risks like vacancies and maintenance costs.
7. Collectibles and Other Valuables
Collectibles — think art, antiques, rare coins and wine — represent a unique category of alternative investments. These tangible assets can appreciate in value over time, driven by scarcity, demand and cultural significance.
Investing in collectibles can be rewarding both financially and personally, as investors often have a passion for the items they collect. However, the market for collectibles can be highly illiquid and subjective, with values influenced by trends and individual buyer preferences.
Additionally, storage, insurance and authentication costs can add to overall investment cost. Further, while collectibles can provide portfolio diversification and potentially high returns, they often require specialized knowledge and careful consideration.
Bottom Line
Alternative investments, which range from private equity and hedge funds to real estate and commodities, offer diversification beyond traditional stocks and bonds. Each type has its own unique characteristics and risks, making it crucial for investors to align their choices with their financial goals and risk tolerance. In other words, while strategic alternative investments can play a significant role in a well-rounded investment strategy, it’s smart to consider the risks and high entry requirements before diving in.
Tips for Investing in Alternative Assets
- Platforms like Yieldstreet, Crowdstreet, Prosper, and Masterworks.io provide access to various alternative investments, including commercial real estate, debt securities and art. While some opportunities are exclusive to accredited investors, others are open to all, allowing you to participate in markets typically reserved for institutional investors.
- A financial advisor can help you evaluate alternative assets and how they could fit in your portfolio. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Photo credit: ©iStock.com/Oselote, ©iStock.com/gorodenkoff, ©iStock.com/CHUNYIP WONG