The alternative investment sector has gained popularity and become more accessible over the last 15 years, largely due to the global economic recession in 2008. During the economic and financial crisis that led to the market crash, individuals who had previously relied heavily on conventional investments experienced a sharp decline in the value of their holdings, prompting many to explore alternative investment options.
While alternative investments were previously mostly available to high-net-worth individuals and institutional investors, they are now becoming more accessible to retail investors. This trend is mainly driven by factors such as globalization of finance, the introduction of new alternative investment types, advancements in technology, and the growing importance of ESG considerations and green finance.
As a result, retail investors are now able to access alternative investment options and diversify their portfolios, which is particularly relevant given the ever-changing investment landscape and the increasing emphasis on environmental, social, and governance factors.
What are alternative investments? What are the advantages and risks of investing in alternative types of investments? Is it the right behavior to adopt for your trading or investment strategy? Let’s dive right in.
What do we mean when we talk about alternative investments?
Alternative investments usually gather a large array of investments that do not encompass classical financial vehicles, such stocks, bonds or cash products, whose performance isn’t linked to traditional markets.
Usually, these financial opportunities are less (or not at all) regulated by the Securities and Exchange Commission (SEC) in the United States, the Financial Conduct Authority (FCA) in the United Kingdom, or any regulation organization depending where you live, because they’re not often traded on public markets.
This means that you might not be as protected as you could be with regulated investments and that it might be more complex to get reliable and verifiable data, information and track-records about these financial assets. It is therefore more difficult to determine their underlying values and be sure you’re paying the right price.
There are also often illiquid, volatile, and more risky investment options. They also tend to have minimum investment amounts and a specific fee structure that can often be higher than traditional investments.
What are the different types of alternative investments you can add to your portfolio?
Depending on your risk tolerance, your financial objectives, your time horizon, as well as your knowledge, there are different types of alternative investments you can target. Sometimes you can find a list of alternative investments depending on their tangible/intangible or their liquid/illiquid aspect.
Here are some examples of alternative investments you might want to consider adding to your portfolio:
- Precious metals and other commodities such as natural resources
- Art
- Wine
- Stamps
- Coins
- Sport cards
- Antiques
- Cryptocurrencies
- Derivatives such as CFD
- Long/short strategy
- Strategy based on volatility
- Hedge funds
- Private equity
- Private credit
- Venture capital
- Crowdfunding and peer-to-peer lending
- Real Estate
- Sustainable investments
- Infrastructure
What are the pros and cons of investing in alternative investments?
Investors are drawn to alternative investments due to their unique characteristics and the fact that they have low correlations to traditional financial markets, making them an attractive option for diversifying portfolios and somehow reducing overall risk. Moreover, alternative investments provide access to markets that are not available through traditional investments, which is another great way to diversify your investment vehicles.
Although alternative investments are typically considered riskier than traditional investments, they also have the potential for higher returns. The more risk you’re willing to take, the more reward you can receive.
Furthermore, alternative investments are available in various forms and structures, providing investors with flexibility to select the investment that best aligns with their risk tolerance, preferences, and investment objectives.
Finally, some alternative investment vehicles are known to protect investors against inflation somehow, such as Gold and Real Estate, which can be a good solution in times of high inflation as we have experienced over the last few years.
Alternative investments may also offer tax benefits that traditional investments do not provide, which can be advantageous for tax optimization purposes. By investing in alternatives, investors may be able to take advantage of tax incentives such as tax credits or deferrals, which can help to reduce their overall tax liability.
On the other hand, alternative investments are very risky products/investment solutions, which means that the potential for a capital loss is high.
It is also usually very illiquid, which means that you might find it difficult to close your position or get rid of your asset without having a significant impact on its price. Moreover, some alternative investments require a certain period of investment, which means that your investment will not be available in case of emergency.
These financial investments are also globally more complex products or markets, which means that it is harder for novice traders or investors to understand how they work and what drives the prices up or down. It is therefore more difficult to make a more informed decision. Moreover, alternative investment solutions are usually less regulated and less transparent, and information isn’t publicly available.
Finally, their unique nature - which can often be a great advantage - means that it is complicated to determine the right valuation.
How to know if alternative investments are right for you
To evaluate if alternative investments are a good fit for your portfolio, you firstly need to consider your investment goals and risk tolerance. If you have a long-term investment horizon and a high risk tolerance, alternative investments may be more suitable than if you have a short-term investment horizon and a low risk tolerance for instance.
Secondly, you need to assess your current portfolio allocation and how well diversified it is to make the best decisions. You should also consider your liquidity needs.
If your current portfolio is heavily invested in traditional assets, then alternative investments can offer diversification and potentially higher returns. However, it's important to ensure that you don't over-allocate to alternatives. Additionally, alternative investments are less liquid than traditional investments, meaning they may be more difficult to sell quickly. This can be a concern if you have significant short-term liquidity needs.
One potential solution is to allocate a portion of your portfolio to alternative investments while maintaining a larger allocation to more liquid assets like cash, stocks, and bonds. This can help to balance the risk and liquidity of your portfolio.
It’s also important to take into consideration your investment experience and knowledge, as alternative investments often require specialized knowledge and expertise. If you have an area of expertise, it is a good opportunity to exploit it - if you know about real estate or wine, for instance, then that would give you an edge in those respective markets. However, if you do not have experience investing in alternative investments, it may be wise to seek advice from a professional that has experience with these kinds of investments.
Final words
Alternative investments can be a beneficial addition to any investment portfolio, but it's important to determine first if they align with your investment objectives, risk tolerance, and overall financial situation. As a regulated CFD broker, ActivTrades provides a trading platform that allows its users to add CFDs or Contracts on Difference to their portfolio.
As financial derivatives, CFDs can be considered alternative investments as you can bet on rising as well as falling markets over the short-term, without owning the underlying asset, while using leveraged and margin trading. It is also possible to get exposure to different markets within the same platform (metals, agricultural products, energy, futures, shares, currencies, indices, cryptocurrencies, and more).
The information provided does not constitute investment research. The material has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and as such is to be considered to be a marketing communication.
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