Investing money is not a new concept but many are still there who are alienated from this concept.
It helps you generate extra income or profits by putting your money to work in various assets such as stocks, bonds, mutual funds, real estate, or alternative investments like private equity, hedge funds, or commodities.
This invested amount of money grows over time through returns, dividends, or appreciation.
Want to know more? Read the article further to learn about what alternative investments actually are, their types, benefits, and real-world examples.
Table of Contents:
What Are Alternative Investments?
Everyone is into investments as per their convenience, people invest to earn passive income. However, the question still lies, what is Alternative Investment?
To answer this, An alternative investment is also an investment that adds to your financial assets but it differs from stocks, bonds, mutual funds, or real estate. It is profit-making mainly through investing in an economic vehicle like private equity or venture capital, hedge funds, managed futures, art and antiques, commodities, cryptocurrencies, and derivatives contracts.
Real estate has often fallen under the alternative investment classification.
Types of Alternative Investments
To extend our discussion about various types of alternative investments, let’s review several the most commonly used now, examine how they operate, what is unique about them, and possible risks compared with returns.
Private Equity
It entails large investments made into private, unlisted companies in exchange for equity. The funds are raised from high-end institutional investors like high-net-worth individuals, insurance firms, pension funds, university endowments, etc., commonly supplemented with borrowed money and private equity firm’s capital.
It includes subsets such as:
- Venture Capital that mainly comprises seed and small to early phase investments.
- Growth Capital is finance expansion or providing company restructuring.
- Buyouts are basically, purchases outright, company or division.
Private equity firms not only provide capital, but also expertise, mentorship, and talent sourcing to improve the performance of the businesses they invest in for profit later through sales.
Let’s take the example of Blackstone & Hilton Hotels. In 2007, Blackstone Group acquired Hilton Worldwide for $26 billion, combining equity and borrowed funds. Blackstone improved operations, expanded Hilton’s global reach, and listed the company on the NYSE in 2013.
This resulted in a $14 billion profit, making it one of the most successful private equity deals.
It is a way out of which income returns can get higher, but it features high risk and illiquidity with more extended investments making it conducive only to accredited and institutional investors.
Venture capital as a subset narrows it more to startup companies where investments are with high risk and possibly very lucrative returns.
Collectibles
Investing in collectibles like fine art, rare wines, vintage cars, stamps, coins, and baseball cards are classified as alternative investments with the hope that their value will increase even more over time.
Investing in collectibles presents major hurdles:
- Valuation Difficulties: They are impossible to appraise and can be volatile based on trends and conditions.
- Income Starved: Unlike traditional investments, collectibles produce no dividends or income until sold.
- The loss of value can occur from damage risk. Improper storage or care can reduce them.
- High Acquisition Costs: Usually, art collectibles require huge upfront investments as they are difficult to sell.
The research on investment art has claimed average annual returns of about 0.55%, with an even lower return identified by other studies, and experts advise against using art as a pure investment due to the speculation involved.
Investing in collectibles is deep, and it requires full knowledge and experience to make informed decisions with minimal risk of major losses.
Commodities
Investment appears to be without investing in some collectibles because those collectibles: fine art, rare wines, vintage cars, stamps, coins, and baseball cards have a tag called ‘alternative investment’ attached so that the value of these collectibles might increase even further over time. However, investing in collectibles comes with certain snags:
- Challenges of valuation, and appraisal: they cannot be appraised and are rather volatile, dependent on trends and conditions.
- Income Starvation: Unlike the income-producing investments available, collectibles do not generate income or dividends until sold.
- Damage risk may devalue: They can be devalued because of improper storage or care.
- Indirect costs of acquisition: It usually requires huge upfront investments to acquire art kinds of collectibles because they are most difficult to sell.
- Research into investment art has shown average annual returns of about 0.55%, with lower identified returns by other studies, and caution against the use of art-in-pure investment terms due to speculation.
Investing in collectibles is teeming, requiring mastery and experience to know before making an informed decision that minimises the risk of incurring a significant loss.
Hedge Funds
Hedge funds are pooled investment funds that use various strategies to generate returns, such as long-short equity, market-neutral, and quantitative approaches. They invest in assets like commodities, currencies, and derivatives and are less regulated than mutual funds.
Hedge funds typically target ultra-wealthy individuals and institutional investors, often promising astronomical returns accompanied by higher fees and risks. Investors should know that limited regulation and transparency may be best for due diligence before investment.
Real Estate
Real estate means different physical properties, such as lands, buildings for commerce, and REIT (Real Estate Investment Trusts). It earns income through rents, as well as prices run by the two harmonising bond-like cash flows and equity-like value growth.
Investors may own the property directly or invest in REITs, the latter being trusts that own income-producing real estate. Real estate is taken to hedge against inflation but can be illiquid and prone to interest rates and market conditions.
For example, a residential rental property can provide rents every month, as well as longer-term appreciation, while through REIT investors can appreciate the benefits of real estate without owning any bricks. Nevertheless, during a down market, it may be difficult to sell property out quickly.
Each of these alternative investment types provides its own growth, income, and risk management potential. Just like with any investment, one needs to do careful research, understand the risks, and make sure that the choices fit into long-term financial goals. Thus, alternative investments can certainly diversify your portfolio further and expose you to the potential to achieve greater returns across different market conditions.
Benefits of Alternative Investments
Alternative investments offer many things, but they do come with certain risks. Here are some of the benefits of alternative investments that interested investors can contemplate.
Diversity
Due to the low correlation between the alternative assets with other types of assets, it is possible to mitigate the portfolio risk of its totality.
Higher Return
Many alternative assets, such as private equity or hedge funds, are believed to generate much higher returns in comparison to public market investments.
Unique Opportunity
Alternative investments are those that will capture an opportunity that will not be open in the public markets, such as private companies or narrower markets.
Inflation Hedge
Tangible assets such as real estate or precious metals can serve as protection against inflation because they may maintain or increase their value over time.
How to invest in Alternative Investments?
Investing in alternative investments is a completely different experience based on the asset that you are investing in. Some may require a huge amount of capital and research; others may perhaps suffice with just a few clicks on a mouse button. Broadly speaking, here is how to invest in alternative investments.
Private Equity
Private equity investments typically entail obtaining shares in a private limited or group of private limited companies. Private limited companies may bring private equity funds into participation through private equity firms, venture capital funds, or crowdfunding platforms.
Real Estate
Property can be invested directly by purchasing a rental property, in Real Estate Investment Trusts (REIT), or through real estate crowdfunding platforms.
Hedge Funds
Generally accessible only to accredited investors, hedge fund investments require net worth and investment capital of a very high level to qualify. Investors typically invest through the hedge fund manager or broker.
Commodities
The commodities involve investments in a physical asset, for example, gold, silver, oil, or agricultural products. Investors can also invest in commodities by trading in commodity trading platforms or through ETFs (exchange-traded funds) or mutual funds.
Art and Collectibles
Investments in art and collectibles can be made through art dealers, auction houses, or online marketplaces. Since they are unique and often not easily traded comparably, it is wise to think about the dealer’s reputation in exploring methods of trade.
Alternative Investments Examples
Below are some of the alternative investments examples across different categories for you to get a better idea of these.
Private Equity
Investing into private firms like SpaceX, founded by Elon Musk, which has achieved notable milestones in aerospace and is currently valued at $350 billion as of December 2024.
Hedge funds
Bridgewater Associates, one of the leading hedge funds which is run by Ray Dalio, carries out several techniques for investment such as one position where they own SPDR Gold Shares (GLD).
Real Estate
Investing in a Real Estate Investment Trust (REIT) such as Prologis that engages in the global ownership and operation of industrial real estate properties.
Commodities
Investment in gold by means of ETFs like SPDR Gold Shares (GLD), which follows the price of gold bullion.
Collectibles
Owning an Italian vintage car such as a 1962 Ferrari 250 GTO, among the most-favored collector cars, with its models auctioned for more than $48 million.
Farmland
Buy farmland on sites like AcreTrader where you can share farm land directly with other investors and make returns from lease and crop sales.
Private Debt
Investing in private debt by using platforms like yieldstreet which offer private investment access to sector-wide asset-backed debt.
The Bottom Line
Alternative investments provide a diverse range of options for investors to expand their portfolios beyond stocks and bonds. From private equity and hedge funds, they include real estate and collectibles, having a distinct array of opportunities for returns, diversification, and alleviation against inflation. They, however, carry heavy risks and should therefore be researched and aligned with long-term financial goals before venturing into them. Whether a novice or a pro-investor, understanding these opportunities aids in navigating the modern financial landscape.
FAQ’s
Is ETF an alternative investment?
ETFs, or exchange-traded funds, are not generally considered alternative investments. Since they essentially have stocks, bonds, or other kinds of conventional assets and are traded on stock exchanges. Yet, there are now ETFs that are on alternative assets like commodities, real estate, or hedge fund strategies pushing the line.
For example:
Conventional ETF is an S&P 500 Index ETF an example that tracks performance with classical types of stock market indices.
An alternative ETF is a Commodity ETF such as SPDR Gold Shares (GLD) follows the price of gold as an alternative asset.
In reality, it is not that one or the other of these two are alternative investment types, but their respective underlying holdings can occasionally occupy that category.
Which AIF is best in India?
There are various criteria to find the best like performance, fund management, investment strategy, etc. So, the data over the recent period reveals Vivriti Capital, Motilal Oswal, and Alchemy, all having outperformed the Nifty50. Further, Avendus AIF has emerged as a leader among long-short AIF providers, followed by ITI AIF and Alta Cura AIF.
What is an alternative investment firm?
An alternative investment firm collects funds from investors to invest and in India, it can be done through a trust, company, body corporate, or Limited Liability Partnership (LLP).
What is the largest alternative investment management company?
It is commonly accepted that the largest alternative investment management company is BlackRock, which, although mostly specializing in asset management, places a strong emphasis on alternative investments. The Carlyle Group is a rival alternative investment organization known primarily for private equity and other types of alternative assets.
