Alternative investments are unconventional type of investments that flare mainly because of the risks incurred which is covered by high return. Here are the major classifications of investment alternatives from the conventional way of investing in public businesses, the purpose of adding them is to diversify the portfolio with assets that are very less correlate with conventional asset classes (Equity).
Adding alternative investments with traditional investments:
- The private investment market is less efficient, since less players get access to private placements due to net worth restrictions and knowledge base requirements.
- Less correlation with equity returns, as the characteristics of the alternative investments are discrete in nature, the assets tend to move in less correlation (ρ near to zero) with capital markets.
- Inflation hedge, price of commodity moves with inflation, similar to gold.
Hedge funds are an alternative investment that pool fund similar to mutual funds, differently they are permitted to use any kind of technical or fundamental strategies to profit from the market and are loosely regulated in reporting. Hedge fund fee structure in various ways helps investors from paying high management fee and a performance fee, those protect real gains for the liable partners. Strategies applied are highly complex that only computers can find such kinds of profiting discrepancies in the market. Merger arbitrage is one where the hedge fund bets heavily that the merger will not happen, based on previous data and sticking with the management hedge funds will be able to profit from the price fluctuations.
All the natural resources come under commodities, a well known example Gold that is negatively correlated to the stock market and other metals contribute to the commodity market. The commodity market functions with future prices that are derivatives of the base commodity rather than spot prices. The market protects producers and consumers from the price volatility and price manipulation as the futures are priced on average price of the contracts.
Crude oil, Coffee, Natural Gas, Gold, Wheat, Cotton, Soya, Copper, Aluminium, Sugar are the most traded commodities in the world.
Commercial properties, Workspaces and Own houses all contribute to the growth of real estate sector. After the 2008 financial crisis, the market has been in doubt about pricing, but the better face is unit sales have picked up well and showing growth. REITs are important players in office spaces who rent out, lease buildings for commercial purposes, that are currently in talks to make them a mainstream asset class. REITs are real estate units sold in parts that are traded in markets.
Public serving buildings, Government properties that charge fees on services, Bypass, Highways, Public utility, SEZs, Bridges, Electric and water connectivity, Internet services, shopping complexes, Harbors, Airports all these makes the environment more habitable, these all come under infra projects and investments. Mostly built by Public Private Partnership, the operation is fairly easy. Private player who is well adopted to build projects gets the tender, finishes the project and maintains the property, government is provided with a fair part of the profits earned. This can be seen as perpetual investments, once invested they pay for decades.
Infrastructure assets generally live longer than any kind of real asset because they are pushed more than its limit of existence. Some assets have no cash flows, like bridges and renovations, but aid in increasing employment, ease of living, comfortability and tourism.
Private equity, Venture Capitalist, Leverage Buyouts, Private debt, REITs comes under private capital and are not publicly available for retail investors, but are offered to HNIs and institutions that are known to be Qualified placements. Highly skilled professionals play in here to profit from real growth of the business, turning over the business, picking up whole and selling in parts, will need a charted plan to execute. Private equity is similar to mutual funds in the way of pooling, unlikely private funds go into private businesses that are expected to move forward with funding.
Antique portraits, statues, old wine, aesthetic arts, Canvas paintings, collectible jewelry and other properties that are valued because of its rarity and popularity are classified under collectibles. The purchase and resale most often happen in an auction basis. Markets for collectibles doesn’t exist and the prices of valuable articles are fixed accordingly with the individual’s gratification to own them. A person in this kind of business has to be the matter expert, because history can be bent easily, fantasized for a better price and duplication is common.
Holding on to a piece of art or an antique will not always yield great return, antique how much it is worth today? will be answered with high uncertainty. The storage costs, show room costs eat up much of the gains. Since the value isn’t known to both buyer and seller, bid and ask goes with comparable pricing based on previous trades of similar art works or because the relative cheapness for the buyer. A billionaire can afford thousands, even if the artwork is worth even less.
Investors should carefully diversify having a mix of alternative investments with traditional investments, due to the risk and return potential of unconventional way of investing. Alternative investments should support gains and not in the way to increase overall risk of the portfolio. Investing in securities that are least likely to correlate with alternative investment securities hold portfolio returns even in tough times.