An alternative investment is any investment that falls outside cash, bonds and stocks. Examples of alternative investments include venture capital, private equity, hedge funds, real estate investment trusts, commodities, precious metals, rare coins, wine and art.
Alternative investments are less exposed to market conditions and can be used to diversify your portfolio and reduce the overall risk.
One of the principal hallmarks of an alternative investment is a low level of correlation with traditional investments like stocks and bonds. Investing in these type of assets requires a high degree of due diligence as it can be difficult to determine market value. Finding good opportunities in the alternative investment sector really boils down to knowing what is likely to appreciate in value over the months or years.
It’s up to you which, if any, alternatives you decide to include in your portfolio. The good news is that the range of options available to investors has increased substantially over the years. Here are a few examples:
There are more private companies than public companies, and many of them take on investor capital. Private equity firms typically raise funds and take capital from both non-institutional and institutional investors. The funds will then be used to place investments in promising private companies. The capital is returned to investors upon exit after the firm takes its management and performance fee. Private equity is a general classification that includes the investment in start-ups, venture capital, and financing throughout phases of a company’s growth.
Direct Investment in Start-Ups and Private Companies
Investors can directly invest into start-ups and private companies as opposed to investing in a private-equity fund. Investing seed capital directly in start-ups is sometimes referred to as angel investing. This is a high risk and high return strategy for investors as many start-ups end up failing. A private company will seek investors through a private placement based on a certain valuation. Companies seek investment capital throughout their lifecycles, so more mature companies can also be targeted for investment.
Real assets are physical or tangible assets that have intrinsic value such as real estate, oil, precious metal commodities and agriculture land. Luxury and collectable goods also fall into this category, including wine, art, jewellery and rare coins. Investors can buy real assets directly or invest with a fund specialising in real assets.
These are pooled investment funds that are formed to invest in a variety of strategies and asset types. Hedge fund managers raise funds and invest with a variety of styles and financial instruments. Some of the more common hedge fund strategies include equity long-short, distressed assets, arbitrage, and macro-trends. Hedge funds differ from private equity and venture capital funds in that they invest in public equities and generally have greater redemption frequencies and liquidity,
Private Placement Debt
Investment in debt is also a large market. Similar to equity, private placements are not issued or traded publicly and are not required to be rated by a credit rating agency. Promissory notes or mezzanine debt are often used to finance a private company, while giving investors a steady stream of cash flows.
Investor Interest in Alternative Investments set to Rise in 2020
As we continue into 2020, many investors will have an eye on the alternatives sector for robust diversification opportunities. The key factor attracting this interest is the low level of correlation that protects your capital from volatility and uncertainty.
This year, the theme will be very much on safe investment, with more interest in steady value growth than inflated returns. Investors will also be looking to protect their money from inflation in the short-term and there is a wealth of opportunity to do so in alternatives.
Find out more about how to build a well-diversified investment portfolio by contacting one of our advisers today.