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Alternative investments have become more mainstream in the past few years amid the digitalization of some of the financial vehicles that offer exposure to them.
Moreover, financial engineering has come up with vehicles through which retail investors can participate and that has increased funding toward different assets, including fine wine, artwork, private equity, and real estate.
If you are wondering what alternative assets are and how you can invest in them, in the following article we will explain the basics of this relatively unknown segment of the investing world so you can decide if it would be a good idea to allocate a portion of your portfolio to them.
What Are Alternative Investments?
In essence, alternative investments are all financial assets other than stocks, bonds, or cash. The word “alternative” comes from their relatively smaller annual inflows, heterogeneous characteristics, and the degree of sophistication required to estimate their fair value.
Alternative investments could be grouped into six large categories:
- Hedge funds
- Private equity
- Venture capital
- Private debt
- Real estate
- Real assets
Each of these categories has unique characteristics, which means that not all of them may necessarily be suitable for one.
In most cases, only accredited investors have access to these investment vehicles. An accredited investor, according to the US Securities and Exchange Commission (SEC), is someone who meets one of the following criteria:
- Has a net worth that exceeds $1 million excluding the investor’s primary residence;
- Has an individual gross income of over $200,000 per year or joint income exceeding $300,000 per year;
- Holds a certification, designation, or credential that qualifies them as knowledgeable investors; and
- Is a registered financial professional such as an investment adviser.
These requirements have kept retail investors away from alternative investments for many years. However, today many companies have devised vehicles through which a pool of capital can be raised by an accredited investor who administers it and invests it on behalf of individuals who do not meet this criterion.
✎ Editor’s Note
Keep in mind that the majority of alternative investments have fewer regulations from the U.S. Securities and Exchange Commission (SEC) and tend to be less liquid than traditional assets like stocks and bonds.
Best High-Yield Alternative Investments
Now that you know what alternative investments are, the following is a list of the most popular non-traditional assets you can consider for your portfolio.
Farmland investing has generated positive returns for investors in the past 29 years at least according to data from the United States Department of Agriculture (USDA). This activity involves buying a piece of land that will be “operated” by a third party.
Farmland investing generates income in two ways. One through the potential appreciation of the land’s value and the other via the rent payments collected from the operator.
Platforms like AcreTrader and FarmTogether are some of the providers that currently offer retail investors access to this interesting asset. Both require a minimum investment of $15,000 and offer a cherry-picked portfolio of top-quality farmland for investors to choose from.
Fine art investing was previously reserved for experts who understood the intricacies and complexity of choosing the rarest and possibly most profitable artwork to hold. However, the careful process of selecting and negotiating a deal involving multi-million dollar artwork has been facilitated by platforms that specialize in this particular niche.
Masterworks is among the most popular online platforms for fine art investing. The company locates the best artists around and buys art from them. After that, they securitize the artwork by creating a company that owns the masterpiece.
Fractions of these companies are sold to retail investors who would like to own a percentage of the artwork. Investors can either hold on to their shares for a long period (three to 10 years) to receive the proceeds once the masterpiece is sold or they can sell their shares in Masterwork’s secondary market to another investor before the holding period is due.
Non-fungible tokens (NFTs) have been on everyone’s mouth recently due to the multi-million dollar auctions conducted by well-reputed houses like Sotheby’s. A non-fungible token is a digitized artwork that is minted on a blockchain like Ethereum or Solana to give the purchaser the crypto version of a certificate of ownership.
Even though NFTs are essentially a JPEG or PNG file that can be copied by anyone, the same could be said about a painting that can be replicated by somebody else different from the original artist. The fact that it can be copied does not reduce the value of the original.
In an increasingly digital world, many believe that NFTs will become a niche of the fine arts industry and that may be even truer once advanced versions of the metaverse are launched. NFTs can be bought in marketplaces like OpenSea or directly from their owners if they have already been purchased.
Collectibles will always be a great investment as long as you keep up with current trends. These items can be anything from baseball cards to Pokemon cards and, even though finding them and storing them for a long time can be challenging, the rate of return could be quite high if you hold on to these pieces until they jump to the spotlight.
The most successful collectors are those who can envision the value that a present piece could have in the future as a result of its large present or future potential following. Think of the actual ring used in the movie Lord of the Rings. How much could that be worth in the next 10 to 20 years if the movie turns out to be a long-lasting franchise similar to Star Wars?
Those are the kind of collectibles that may be worth your while. They might be relatively expensive now but their value could climb significantly over the next couple of decades once they become rarer.
Since the dawn of Bitcoin in 2009, cryptocurrencies have grown to become a standalone financial asset with a combined total market capitalization that recently exceeded the $2 trillion mark.
The underlying technology that supports crypto assets — the blockchain — is one of the most ground-breaking advances of mankind and one could reasonably state that, despite the latest advances of the market, the adoption of this technology by corporations, governments, and businesses around the world is still at a very early stage.
Aside from the most popular and well-known tokens like Bitcoin (BTC) and Ethereum (ETH), other projects have emerged to revolutionize specific industries as is the case of decentralized finance (DeFi).
Investing in cryptocurrencies nowadays is easier than ever and, for US-based investors, some of the most popular exchanges to buy crypto assets are Coinbase, Kraken, and Gemini.
Precious metals have been considered a great hedge against inflation for years and a stable asset class during times of economic turmoil. These include gold and silver and, to a lesser extent, other rarer materials like palladium and platinum.
There are multiple ways to invest in precious metals, including buying and holding them physically or doing so through a website like Bullion Vault, which stores the metals safely on behalf of investors.
Moreover, certain financial vehicles like exchange-traded funds (ETF) and mutual funds offer exposure to this segment of the commodities market. They can either specialize in a single one (gold or silver mutual funds and ETFs) or hold a basket of them (precious metal-focused ETFs and mutual funds).
✎ Editor’s Note
Owning physical metal is just one way to invest in this asset, however investors can also gain access through the derivatives market, ETFs, mutual funds, and even mining company stocks.
Real Estate Crowdfunding
Real estate crowdfunding is an operation that involves financing a third party’s — commonly known as the sponsor — plans to flip a property to either sell it right after or turn it into a money-making machine. There are two ways to invest in real estate properties via crowdfunding. You can either be an equity holder or a lender.
Equity holders acquire a stake of the company that will operate or flip the property while lenders will only provide financing for the project to be completed.
Platforms like Fundrise and CrowdStreet have facilitated real estate crowdfunding for investors by creating a marketplace in which projects can be selected. In most cases, a minimum investment of over $15,000 is required to participate as an accredited investor and annual fees can go from 0.5% to 2.5% of the investment (both upfront and annual fees typically apply).
Peer-to-peer lending seeks to remove the middleman in one of the most common financial transactions in the world: extending a loan. Investors can build diversified portfolios of loans of different quality and yield by assessing the borrower’s credit score, past payment history, and other similar variables.
On average, typical loan rates can go from 6% to 36% depending on the borrower’s creditworthiness, the size of the loan, and other elements while the average return earned by investors from the most popular P2P platforms can go from 10% to 25% depending on the portfolio’s composition.
The minimum investment required by platforms like Lending Club and Prosper starts at $1,000 and goes up to over $5,000 for tax-advantaged accounts like individual retirement accounts (IRAs).
The commodities market is quite ample and this allows investors to identify some potential materials they can invest in upon performing a thorough analysis of the variables that influence their price over time.
In a separate article, we have discussed the intricacies of investing in commodities ranging from corn to precious metals while we also provide a list of the brokers and vehicles you could rely on to get exposure to this large segment of the financial markets. Check out our investing in commodities guide to learn more about this asset class.
A tax lien is issued by a state government for a property that has not paid its taxes on time. These liens are sold at auctions and investors can buy them at a discount. Afterward, the property owner will be responsible for paying back the lien in periodical installments to the investor and, if they are unable to do so, the investor may start a foreclosure procedure on the property.
If the tax lien is paid as agreed, the investor will benefit from the positive difference between the auctioned price and the total payments he or she receives. Meanwhile, if the property is foreclosed, the value of the property once sold should be higher than the cost of the lien.
That said, investing in tax liens can be quite complex and demands knowledge on regulations concerning this activity along with assessing the fair value of the property in case it has to be foreclosed to make sure that the operation will be profitable in that scenario as well.
Jewelry was considered a standard form of investing in previous centuries. The materials used to craft the pieces were only one of the aspects that made them valuable since, in some cases, the craftsmanship was considered even more valuable.
Since jewelry carries both a tangible and intangible value, it can be a great investment vehicle for the trained eye.
If you have some experience in this particular field, you may use that to your advantage by locating rare pieces that can be bought, held, and later on sold through platforms like Worthy.com, which facilitates the process of negotiating the sale via online auctions.
Hedge funds are private investment vehicles that pursue different strategies to generate above-average returns for investors. These funds are typically managed by Wall Street professionals who have a strong background and significant expertise in the financial markets.
Most of these funds require high minimum investments and they can be a bit secretive about the strategies they engage in to produce positive returns. They typically charge annual and performance fees and are only accessible to accredited investors.
However, a small group of firms, like Titan, is currently aiming to democratize access to high-end investment funds by creating sophisticated portfolios that pursue advanced strategies.
This platform requires a minimum investment of $100 and charges a 1% annual fee for account balances above $10,000 and $60 per year for accounts with less than $10,000. They don’t charge a performance fee.
✎ Pro Tip
Generally speaking, hedge funds are managed aggressively or make use of derivatives and leverage to generate higher returns.
Investing in fine wine can sound like something only a sommelier could do. However, this activity has been becoming more mainstream for non-experts as a result of the introduction of innovative platforms like Masterworks but for wine.
Fine wine is considered an asset. However, there are many intricacies to this activity. including selecting the best bottles and storing them adequately so their flavor is not affected by sudden temperature changes and other similar variables.
Platforms like Vinovest have facilitated fine wine investing for beginners by securitizing highly valuable wine cases so people can buy and hold a portion of the case for many years to then sell it at a profit.
According to their research, fine wine investing has delivered annualized returns of around 13.6% in the past 15 years.
For high-net-worth investors, angel investing can be a great way to deploy resources into many promising projects that are currently in the earliest stages of their development.
This activity consists of buying a stake of a startup during the seed stage and guarantees elevated returns if the venture turns out to be successful. Think of people like Chris Sacca and Jason Calacanis who have been able to invest early into what are now amazing publicly traded companies and have gotten a hundredfold return on their investments as a result.
If you have a business background or significant expertise in a certain industry, you may choose the path of becoming an angel investor as it will be easier for you to identify the most promising startups.
Platforms like AngelList help investors in reaching out to startup founders as the platform facilitates interaction and sharing of key documents. The minimum investment is $1,000 for deal-by-deal investments and deals can be selected by the investor directly.
Mineral rights allow the owner to exploit the resources that lie underneath the ground including gas, petroleum, precious metals, and many other minerals. These rights can either be used or licensed to a third party that will act as the operator in a similar way as farmland investing.
The owner of the rights gets a royalty payment periodically for the exploitation of these resources.
Investing in mineral rights directly can be tricky for people with no prior experience in this activity. However, certain publicly traded companies specialize in it and they can be a great vehicle to invest in mineral rights indirectly. One example is Kimbell Royalty Partners (KRP).
Pros of Alternative Investments
- Alternative Investments typically generate above-average returns if held for long periods.
- They help investors in further diversifying their portfolios.
- Most of these investments can be made using a tax-advantaged account.
- The correlation with stock market returns is typically low.
- They can generate passive income.
Cons of Alternative Investments
- Most of these vehicles are only available to accredited investors.
- Investing in some alternative assets may require a significant degree of expertise and in-depth knowledge about the asset’s characteristics, legal matters, value drivers, etc.
- The minimum investment required tends to be high (usually higher than $5,000).
FAQ Alternative Investments
The following are some of the most frequently asked questions we get on the topic of alternative investments.
Why Should You Consider Alternative Investments?
Alternative investments should be considered for many reasons, but mainly to further diversify your portfolio. Also, alternative investments can be a great way to generate a steady stream of fixed income and access return that can exceed the stock market over the long term.
How Much of My Portfolio Should Be Allocated to Alternative Investments?
Since the minimum investment required by most alternative investment vehicles is high ($5,000+), small portfolios may find it hard to allocate a small fraction. As a rule of thumb, alternative investments as a whole should not exceed 25% of a portfolio’s total value.
However, the actual percentage allocated to this asset class may vary depending on your net worth, risk tolerance, and financial goals.
Are Alternative Investments Risky?
Like any other financial asset, investing in alternative instruments carries a fair degree of risk. The risks vary depending on the asset. For example, investing in jewelry comes with the risk of loss or theft. Meanwhile, investing in a hedge fund comes with liquidity, market, and other similar risks.
In most cases, it is best to invest in these assets by using an intermediary that guarantees the legality of the operation and the distribution of the proceeds as agreed.
What’s the Difference Between Traditional and Alternative Investments?
Traditional investing involves buying and holding stocks, ETFs, and bonds primarily. Meanwhile, alternative investments are all asset classes that do not fall into any of those three categories and that require more complex legal structures for investors to participate.
Now that you know what the best alternative investments are, are you prepared to incorporate one of these assets into your portfolio?
In essence, you would be better off investing in the one(s) you understand the best. That way, you will feel more comfortable and will probably sleep better at night knowing that you have poured your money into a vehicle you are confident with.
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Alejandro is a financial writer with 7 years of experience in financial management and financial analysis. He writes technical content about economics, finance, investments, and real estate and has also assisted financial businesses in building their digital marketing strategy. His favorite topics are value investing and financial analysis.