A Beginner's Guide to Alternative Investments
Alternatives are investment options beyond the typical stocks, bonds and cash found in most portfolios. They can be tangible assets like precious metals, or they could be financial assets like private equity or hedge funds. Alternatives tend to be riskier than traditional assets, which means investors usually have to meet certain criteria to access them. Here’s a closer look at alternatives and some of the most common options available.
What is an alternative investment?
An alternative investment is a financial asset that does not fall under a conventional investment category, like stocks or bonds. These can include real estate, private equity, commodities or even art and antiques. Alternatives are not typically as heavily regulated as conventional investments. Furthermore, while the Securities and Exchange Commission (SEC) may examine their practices, alternatives do not have to register with the SEC.
Alternative investments are also fairly illiquid. The investor pool may be limited, making it hard to find buyers. Additionally, it may be difficult to determine asset value.
Due to the fact alternative investments tend to be more complex and less regulated, they also come with a higher degree of risk than conventional securities. As a result, they are typically only available to accredited investors. An accredited investor is an individual with an earned income of at least $200,000, or $300,000 together with a spouse, or one who has a net worth greater than $1 million alone or with a spouse. The value of an individual’s primary residence is not included in net worth calculations.
For those who don’t meet these qualifications, alternative investments may be available through alternative mutual funds and exchange-traded funds (ETFs), which are SEC-registered and regulated.
Types of alternative investments
A hedge fund is a private, professionally managed and largely unregulated pool of capital whose managers can buy or sell any assets. Because they operate under fewer regulations, hedge funds can invest in more complicated deals than other funds. They can also use complicated strategies, like volatility or merger arbitrage, to generate higher returns. Hedge funds tend to be more expensive to participate in than conventional investments.
This category can include rental properties, real estate development companies, raw land, preconstruction investments and more.Real estate is a valuable diversification tool as it experiences low volatility and is not highly correlated with other asset classes. So, when stocks are down, for example, real estate may do better.
Private equity involves investing directly in companies that are not publicly traded. A relatively large investment is typically required. Often these investments are in new companies with the potential for substantial growth. However, new companies are relatively untested, exposing investors to the risk they might fail.
Crowdfunding arrangements pool together money from individuals to fund new business ventures, such as real estate projects. In return, investors receive equity shares of the company. Non-accredited investors may be able to participate in regulated crowdfunding, but there are limits to how much they can invest. There are no limits for accredited investors.
Commodities are often investments in raw materials, such as metals, energy and agricultural products. They can be risky investments, since outside factors, like the weather or natural disasters, can affect their supply and demand. However, commodities can also provide diversification within a portfolio, since their prices tend to move in opposition to stocks.
While alternative investments can be a key tool for diversification, it’s important to do your due diligence when considering which investments to buy. Understand the risks and limitations and remember that alternatives may be difficult to sell quickly and could potentially be more volatile than traditional investments.
Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any securities or to advise on the use or suitability of The AMG Managed Portfolio Series, or any of the underlying securities in isolation. Information specific to the underlying securities making up the portfolios can be found in the Funds’ prospectuses. Please carefully read the prospectus before making an investment decision.
This commentary offers generalized research, not personalized investment advice. It is for informational purposes only and does not constitute a complete description of our investment services or performance. Nothing in this article should be interpreted to state or imply that past results are an indication of future investment returns. All investments involve risk and unless otherwise stated, are not guaranteed. Be sure to consult with an investment & tax professional before implementing any investment strategy.
Investing involves risk. Principal loss is possible. Investing in ETFs is subject to additional risks that do not apply to conventional mutual funds, including the risks that the market price of the shares may trade at a discount to its net asset value(“NAV), an active secondary market may not develop or be maintained, or trading may be halted by the exchange in which they trade, which may impact a fund’s ability to sell its shares. Shares of any ETF are bought and sold at Market Price (not NAV) and are not individually redeemed from the fund. Brokerage commissions will reduce returns. Market returns are based on the midpoint of the bid/ask spread at 4:00pm Eastern Time (when NAV is normally determined for most ETFs), and do not represent the returns you would receive if you traded shares at other times. Diversification is not a guarantee of performance and may not protect against loss of investment principal.