Portfolio Management

The Ultimate Guide to Alternative Investments

Savvy

January 12, 2024

#Savvy

Alternative investments refer to assets that fall outside of the traditional categories of stocks, bonds, and cash¹. For high networth individuals, they can enhance portfolio diversification, provide high returns, and act as an inflation hedge². This guide covers the main types of alternative investments, their key benefits and risks, and tips for adding them to your portfolio as a high net worth investor.

What Are Alternative Investments?

Alternative investments are financial assets that do not fall into the conventional categories of equities, fixed income, or cash³. They include:

Private equity - Investing in private, non-publicly traded companies
Hedge funds - Actively managed portfolios that can use leverage and derivatives
Venture capital - Investing in startups and small businesses
Real estate - Commercial, residential, and retail real estate
Infrastructure - Roads, bridges, ports, and utilities
Natural resources - Precious metals, oil, gas, timber, agriculture
Collectibles - Art, wine, coins, stamps
Cryptocurrencies - Digital assets like Bitcoin and Ethereum

These assets differ from traditional investments in that they are often complex, risky, illiquid, and lightly regulated⁴^.

Key Benefits for High Networth Investors

Adding alternative investments to your portfolio as a high networth investor can provide:

Diversification

Alternatives tend to have low correlations with stocks and bonds, reducing overall volatility⁵^. This makes them attractive portfolio additions.

Inflation Hedge

Real assets like real estate can appreciate with inflation⁶^, making them effective hedges. This is especially valuable for high networth investors looking to preserve wealth.

Higher Returns

Alternatives like private equity have historically delivered returns exceeding public markets⁷. This outperformance is appealing for those seeking to grow assets.

Income

Real estate and infrastructure can provide steady cash flows⁸^. This income generation helps high networth investors support their lifestyles.

Risks to Consider

While alternatives can boost returns, you need to be aware of the risks:

Illiquidity

Long lock-up periods ranging from months to years⁹ mean capital can be tied up for extended periods. This hampers accessibility.

Complexity

Hard-to-value assets require expertise¹⁰ to assess accurately. This makes oversight more difficult.

Lack of Transparency

Little public information compared to public markets¹¹ raises due diligence requirements. Keeping track is harder.

Tips for High Networth Investors

If you decide to invest in alternatives as a high networth individual, keep these tips in mind:

Start Small

Allocate only 5-10% of your portfolio to alternatives¹² until you better understand them. This caps risk exposure.

Focus on Quality

Pick only one or two alternative asset classes and select top-tier options. Avoid quantity over quality.

Prepare for Illiquidity

Have an investment horizon of 5+ years¹³ and ample liquidity elsewhere. Lock-up periods require planning.

Involve Your Advisor

Work with a financial advisor to find suitable options aligned with your goals¹⁴. Their input can be invaluable.

Conclusion

Adding alternative investments can boost portfolio diversification and returns for high networth investors, but they come with unique risks to manage. By following these tips and working with an advisor, it can help you to prudently incorporate alternatives as part of a balanced investment plan. Their role for wealth creation and preservation is expanding rapidly.

Disclaimer

Incorporating alternative investments into a portfolio presents the opportunity for significant losses including in some cases, losses which exceed the principal amount invested. Also, some alternative investments have experienced periods of extreme volatility and in general, are not suitable for all investors.