Alternative Investments

The 411 on alternative investments—what they are, how they work, and how that pertains to you

In 2021, data indicated that only 22% of investors had integrated alternative investments into their portfolios. But, at the same time, most ultra-high-net-worth individuals (81%) had invested in this asset class. Cue a fascinating unfolding paradox.

Investors continue to gradually recognize this less-traveled route as one that may lead to greater success in the long run. This sector may continue to flourish with alternative investment options such as precious metals, derivatives, cryptocurrencies, real estate, wine, venture and fine art gaining popularity.

Defining Alternative Investments

Most people are familiar with the tried-and-true strategies of stocks and bonds when it comes to investing. However, alternative investments have been gaining traction in recent years, and it's essential to understand what they are and how they differ from traditional investment options.

Alternative investments are assets that fall outside the realm of traditional capital market positions like stocks and bonds—not typically something you hold in a 401(k). They are often less regulated and less liquid than traditional investments but can provide investors with unique benefits such as diversification and the potential for higher returns, although sometimes at a higher risk.

Historically, real estate and precious metals have been the kingpin of the alternative investments market. Nowadays, investors have access to a laundry list of alternative assets such as crypto, derivatives, private equity, venture, commodities, collectibles, and fine art.

The Growth of Alternatives

Assets

Alternative investments have taken off like a rocket in recent years, more than doubling their assets under management (AUM) in the last decade. This growth will likely continue as most estimates anticipate that number to top record highs in the coming years.

Increased access

Part of the reason for this explosion in alternative investments is our increased level of access to them. Real estate used to be for the wealthy, but now it’s being commoditized. Crypto was an obscure asset class that was hard to access, but now anyone can buy on an exchange. The list of examples goes on, there are even apps out there that allow you to invest in wine and fine art through a few clicks, something that’s particularly appealing to younger investors.

How to Integrate Alternatives Into Your Portfolio

It’s important to note that alternative investments should not be perceived as a replacement to traditional investing but perhaps as a supplement to it. Alternative investments are often more volatile, meaning that although they come with more upside, the downside can be equally as steep.

It’s precisely that volatility that lends itself to creating additional net worth. But it’s a double-edged sword, and it does not mean that alternatives should be perceived as a way to "get rich quick".

Integrating alts into your strategy

• Don’t overdo it

When adding more volatile assets to your portfolio, it’s essential not to out-kick your coverage. If things go south, this could create a significant financial burden on your financial situation.

• Diversify meaningfully

Taking a willy-nilly approach to diversifying your portfolio doesn’t accomplish much; you must approach it carefully. Adding some alternatives to your portfolio can be a good choice, but make sure it’s not just anything. Alternatives should not be perceived as a passive strategy, at least not at first. Take some time to research and find an investment that makes sense for your goals and financial situation.

• Go long

Although they’ve been around for a long time, alternatives are still relatively new to the big stage, and there will be a lot of choppiness on the way up. Because of this, it’s best to avoid trying to time these nascent assets and hold them for the long run instead.

• Understand liquidity risks

Alternative investments are often less liquid than traditional investments, meaning they may be more challenging to sell or convert into cash in the event of a crisis or sudden need. Be aware of any restrictions on liquidity before investing.

• Consider tax implications

Many alternative investments may have unique tax implications, so it's crucial to understand how investing in these assets may affect your tax situation.

• Be aware of high fees

Alternative investments often come with higher fees than traditional investments, so factoring these costs into your overall investment strategy is essential.

• Stay up-to-date

As with any investment, staying informed about market trends, economic factors, and any regulation changes that may impact alternative investments is essential.

Conclusion

Alternatives are easier to access than ever, and they could be a beneficial addition to your portfolio if you do your due diligence first. Do your research and use sharp-minded discretion.

What’s next? Download the Pocketnest app (if you haven’t already) pop into your to-do list to stay on top of your financial plan.