The pros and cons of alternative investments

Alternative investment, once the domain of institutional and high-net-worth investors, is now becoming more and more popular and is entering the portfolio of retail (individual) investors.

The term is a collective term for any asset bought and sold outside of the major stocks, bonds, and commodity markets. Alternative investments can mean anything, from antiques worth investing in to Bitcoin. It also covers companies such as private equity transactions and venture capital firms.

Alternative investments have their appeal, especially for high-net-worth individuals who have a special interest (and expertise) on a esoteric subject and believe they can turn this interest into a valuable investment.

Here are some pros and cons of alternative investments.

Upside for alternative investments

Alternative investments are usually not related to the stock market, which means they can be used to increase portfolio diversification and help reduce volatility. Some can also provide tax incentives not available in traditional investments.

As with any investment, the rate of return on alternatives cannot be guaranteed, but it may be higher than that of traditional investments.

Proponents of alternative investments in individual investor portfolios insist that they can now obtain complex investments and potentially higher returns that until recently were only available to institutions such as pension funds and foundations.

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The risks of alternative investments

Alternative investments are more complex than traditional investment tools. They usually charge higher fees.

As with any investment, the potential for higher returns means higher risks.

To overcome the shortcomings

Since the 2008 financial crisis, alternative investments have surged, especially those with more liquidity.

From the broadest definition, alternative investments can include some exchange-traded funds (ETFs) and mutual funds, which use strategies similar to hedge funds to reduce risk. In other words, their investment portfolio is so diverse that their overall return has nothing to do with the stock market or the bond market.

Alternative investments such as private equity are even entering the 401(k) portfolio. The underlying assets of private equity funds are often illiquid and difficult to value, which poses challenges in providing these assets in a fixed contribution plan. The fixed contribution plan provides plan participants with the liquidity and price of investment options on a daily basis. In order to overcome liquidity and pricing challenges, private equity firms are seeking to provide private equity investments through target date funds and collective investment trusts.

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Advocates of private equity as an option in a 401(k) plan believe that compared with typical ordinary options such as mutual funds and stocks, ordinary investors can now obtain higher returns. Traditional investment yields and bonds-they must choose from them.

Alternative Investment Outlook

According to a report by data intelligence provider Preqin, the overall market for alternative investments may grow to US$14 trillion by 2023. Its report defines hedge funds and private equity as alternative investment categories.

Part of the reason may be that investment companies have lowered the entry requirements for alternative-oriented mutual funds. In addition, in addition to the usual bonds, mutual funds, and exchange-traded funds, investors themselves are also interested in certain things.

Many emerging economies are shifting from a savings-oriented approach to investment, thereby attracting investors seeking new opportunities.

However, considering the advent of investing in cryptocurrencies such as Bitcoin, this outlook may be conservative. This investment option may be shaken, but the interest of global institutions in it suggests that it may be a viable option for those seeking high-risk/high-return tools.

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Another investment that attracts large amounts of capital is equity crowdfunding. Individual investors can purchase shares in new companies through online sites that provide these opportunities.

This is a very high-risk investment because many new companies have failed. However, there are enough success stories of investors to make this option attractive to small investors.

Bottom line

Proponents of non-traditional investments believe that compared with mutual funds, stocks and bonds, ordinary investors can now obtain assets that have nothing to do with the stock market, providing diversification and potentially higher returns.

They are also more volatile than traditional investments such as stocks, bonds and mutual funds. Most are relatively illiquid, which means they are difficult to sell quickly.

Most of these alternatives are complex and usually have higher risks than traditional investments.

Wise investors may view alternative investors as a means to achieve diversification, rather than the core strategy of long-term plans.

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