Alternative investments are gaining popularity with more investors adding them to their portfolio or increasing their existing allotment. There are several reasons why alternative investments are enjoying high levels of popularity right now: diversification; avoiding market volatility and the current high cost of equities; not wanting to be limited to publicly traded stocks; frustration with low returns on ‘safe’ investments; needing a hedge against inflation; increased accessibility; and personal interest or passion, as in the case of collectibles.
According to research by Connection Capital, 87 percent of investors plan to maintain, if not increase, the proportion of alternatives in their portfolio as alternatives remain a vital portfolio diversifier. Alternatives offer many advantages to investors, of which diversification, an inflation hedge, and the search for better returns than can be found in the stock market are just a few.
Since alternatives behave very differently from stocks and bonds, they increase the diversity of any portfolio, helping to balance risk and return and to combat relatively poor performance from traditional ‘safe’ investments.
Wealth Adviser, June 15, 2020
Avoiding market volatility
According to Markets Insider, 48 percent of Americans are reluctant to invest in equities at this time due to the volatility of the stock market and the high cost of stocks.
“According to a new survey from Allianz, 48 percent of Americans do not want to invest in stocks at this time, while 74 percent anticipate increased volatility throughout 2021,” says Carla Mozée.
Caution prevails as the US begins its recovery from the pandemic amid fears of inflation. Many stocks are highly priced at present, adding to the nervousness of investors who are conditioned to ‘sell high, buy low’. Turned off by the unpredictability and high price of equities, more investors are diversifying into alternatives with many choosing to increase the proportion of alternative assets in their portfolio. Alternatives such as gold – always a primary choice as a hedge against volatility and/or inflation – and real estate, which generally beats the stock market, are particularly attractive options.
While traditional recommendations are for around 20 percent of a portfolio to be in alternatives, many investors are increasing their alternative asset holdings beyond that.
“I believe that alternative asset classes offer much better risk-to-reward as we go into 2021,” says experienced real estate investor Jussi Askola.
Currently, Askola is sinking up to 25 percent of his net worth into net lease REITs.
Access to stocks that are not publicly traded
An obvious attraction for many investors who would like a wider choice of assets. Alternative assets include a range of such investments:
- Private equity – investing in private companies that are not listed on stock exchanges, either through venture capital, growth capital, or buyouts.
- Private debt – referring to any loan not provided by banks. Private debt funds provide loan capital and earn interest, usually at very favorable rates.
- Hedge funds – trading in relatively liquid assets and strategizing to earn high returns. These funds have limited accessibility, being designed for institutional investors and high-net-worth individuals.
- Commodities – minerals, precious metals, and natural resources, etc.
- Collectibles – art, wine, baseball cards, vintage cars, etc., which appeal particularly to those investors with a passionate interest in the items – collectibles will normally appreciate in value over time.
- Real estate – both residential and commercial real estate can provide investors with income from rents in addition to long-term appreciation; real estate generally outperforms stock markets and is the world’s largest asset class
Carla Mozée, Markets Insider, April 18, 2021
Quest for higher returns
Traditionally ‘safe’ investments are producing almost historically low returns, encouraging many investors to look towards alternatives. Placing cash in any traditional safe investment, such as government bonds, has been barely one step up from keeping it under the mattress in recent years; in fact, there have been signs that we may be approaching negative interest scenarios. Such investments may indeed be ‘safe’, but they are hardly productive. Alternatives invariably produce far higher returns; in many classes, this is accompanied by relatively low risk, making alternatives very desirable to investors.
Inflation protection of alternative investments
Investors seeking protection against inflation will be drawn towards alternative assets. Gold, for example, has long provided the classic inflation hedge, despite the fact that it produces no income while it is held and likely incurs costs due to security concerns. Forecasters predict inflation rates in the US to be 1.8% in 2021, rising to 2% in 2023. However, opinions vary; writing for Bloomberg, in December 2020, Reade Pickert and Vince Golle suggested that inflation could easily pass the Federal Reserve’s target of 2% in just a few months. Low employment levels will be the main brake on inflation during 2021.
Increased accessibility for individual investors
Investment funds, REITs, and real estate debt funds offer individual investors the chance to access alternative asset classes that, due to their high investment thresholds, were previously the prerogative of institutional investors and high-net-worth individuals.
Personal interest or passion
Collectibles have long been sought after by enthusiasts; earning monetary rewards from this class requires both expert knowledge and the ability to hold on to an investment for a prolonged period. Many collectors, however, invest in this asset class for a genuine love of the particular collectible, with profit being a secondary consideration.
While alternative assets continue to gain popularity and appeal to a wider range of investors, they do tend to be more illiquid than traditional assets, and many require a medium- to long-term investment before yielding the desired returns. However, as part of a balanced portfolio, they provide essential diversification and offer the opportunity for capital growth and high returns – previously limited to institutional and high-net-worth individuals – to a broader class of individual investors.