Describing The Pros And Cons Of Alternative Investments

What Are Alternative Investments?

The truth is that once the domain of institutional and high –net-worth investors, alternative investments continue to grow in popularity and are making their way into the portfolios of the retail individual investors. The following are some of the pros and cons of alternatives and ways advisors are approaching these non-traditional investments for their clients.

Alternatives Upside

While it is understood that alternative investments typically don’t correlate to the stock market meaning they add diversification to a portfolio and help mitigate volatility offering tax benefits not available in traditional investments. 

Similar to any investment the rate of return for alternatives is not guaranteed, where there is a potential for it to be higher than that of traditional investments. Thereby the proponents of alternatives in the portfolios of individual investors maintain they now have access to sophisticated investments and potentially higher returns that until relatively recently were only available to institutions such as pension funds and foundations and the wealthy. 

The Risks

There is always an alternative investment that is more complex than traditional investment vehicles that often have higher fees associated with them as they’re more volatile than traditional investments such as stocks, bonds, and mutual funds with the majority invested in illiquid investments making them difficult to exit and price regularly. It is similar to any investment where the potential for a higher return also means higher risk. 

Overcoming the Cons

Through providing liquidity and price transparency it appeals to the average retail investor, liquid alternative instruments have proliferated since the financial crisis. Whereas it is that liquid alternative funds include exchange-traded funds, as well as mutual funds, use strategies similar to hedge funds to mitigate risk. As such their investments are typically not correlated to stocks and bonds. 

There are similar alternative investments such as private equity making their way onto 401(k) platforms. Here the underlying assets of private equity funds are generally liquid and difficult to value-creating a challenge when offering them in defined contribution plans. This defined contributions plans provide liquidity with prices daily on investment options offered to plan participants overcoming liquidity and pricing challenges, private equity firms are looking to offer private equity exposure through the target-date funds as well as those collective investment trusts.

There are advocates of private equity where an option in 401(k) plans to maintain that the average investor will now have access to the potentially higher returns that this type of non-traditional investments yields compared to the typical plain vanilla options like mutual funds and stocks and bonds from which they have to choose. 

Outlook for Alternative Investments

It is according to Strategy & (formerly Booz &Company), alternative investments will surely grow to $ 18.1 trillion worldwide by 2020. This is a part of the reason for this that investment firms have lowered the entry requirements for mutual funds oriented toward alternatives. As also investors themselves have developed a taste for something besides the usual mix of bonds, mutual funds, and ETFs. There are many emerging economies switching from a savings oriented approach to an investment approach making themselves attractive to investors seeking new opportunities.

It is better than however, this outlook may be conservative considering the arrival of investing in cryptocurrencies such as Bitcoin with the investment option could falter as the amount of interest in it from institutions worldwide suggesting that it could be a viable alternative for those seeking high-risk/high-return vehicles. 

In this scenario, it is relevant that there comes another investment that is attracting a lot of money is equity crowdfunding as with individual investors can purchase shares of a new company through online sites offering these opportunities. Whereby this is a very high-risk investment as many new companies fall there are enough investor success stories to make this option attractive for even small investors. 

The Bottom Line

It is on this occasion that alternative investments are gaining popularity for investors. While it is true that the proponents of these nontraditional investments maintaining the average investor will now have access to assets not correlated to the stock market, offering diversification and potentially higher returns when compared to mutual funds, stocks, and bonds. Whereas the alternatives here are complex and often higher risk than traditional investments to which most individual investors are accustomed. Therefore these financial advisors, education is key as it comes to recommending these investments for a client’s portfolio. Thus it is often known to be vying for the top position in the alternatives market.