Beyond Stocks, Bonds, and Cash: An Introduction To Alternative Investments

An Introduction To Alternative Investments

By Russ Zalatimo

 

Traditionally, when we think about investing, we think about stocks and bonds. However, there is a different way to invest. An introduction to alternative investments, if you will.

While the term “alternative investment” seems exotic and difficult to decipher, by definition, it simply means any asset class outside of stocks, bonds and cash. However, the term carries a broad meaning that ranges from relatively well-known investment vehicles like precious metals (i.e. Gold), real estate and commodities (like crude oil and agricultural products), to more less known financial instruments such as private equity, distressed securities, hedge funds, carbon credits, venture capital and financial derivatives.

 

Alternative investments tend to be available only to institutional and high net worth investors because, among other things, they require large minimum investments. However, solutions like mutual funds and exchange-traded funds (ETFs) provide alternative vehicles for investors with a smaller net worth. These alternative investments may provide the opportunity to diversify a portfolio while sometimes allowing professional fund managers to make day-to-day investment decisions. While asset allocation and diversification strategies do not ensure profits, it can be a good idea to explore these alternatives as a method to achieve diversification and avoid over-concentration in your portfolio.

Alternative investments may provide an effective means of diversification and an attractive complement to traditional stock and bond investments in individual investor portfolios. Investors who are cautious about the equity markets’ outlook may consider alternative investments run by portfolio managers who use various strategies to try and achieve diversification and controlled risk. Such funds may have reduced correlation to the broad equity markets by way of options and related instruments. Similarly, many investors are frustrated with low-yielding fixed income markets as well as the illiquidity and unpredictability of real estate. Such factors intensify the search for viable alternatives. Alternative investments often may not move in line with the general markets thus offering the potential to provide a reduced overall portfolio risk through increased diversification.

Before moving forward, however, as with all investments, there are risks associated with alternative investments. Here are some points to consider about many alternative investments:

• Low correlation with traditional financial investments (such as stocks and bonds)
• Difficulty in determining the current market value of the asset
• Possibly limited historical risk and return data
• Relatively illiquid
• Potentially high costs of purchase and sale
• A high degree of investment analysis required prior to purchase.

Are alternative investments for you? Possibly. Call your investment professional to discuss whether and how alternative investments may have a place as part of a diligently built and regularly monitored portfolio.