Should you invest in alternative assets?

First, let’s define alternative assets. An alternative investment is a financial asset that does not fit into any of the traditional investment divisions. Traditional asset types include equities, bonds, and cash. Simply said, these are not classified as standard financial assets like cash, fixed deposits, stocks, bonds, equity, or debt mutual funds.

Alternative assets comprise assets that belong to one or more of the asset classes but have a unique twist. Alternative investment options include private equity, unlisted equity, venture capital, hedge funds, managed futures, market-linked debentures, high-yield bonds, peer-to-peer lending, invoice discounting, art and antiques, commodities, and derivatives contracts.

Some people feel that real estate might be an alternative asset. However, traditional physical assets like real estate and actual gold are not considered alternative assets. However, real estate investment trusts (Reits) and infrastructure investment trusts (InvITs) are considered alternative assets.
For the time being, we shall omit cryptocurrency assets from the traditional and alternative asset categories owing to the dispute and argument around them.

Due to the huge transaction sizes, these assets were previously exclusively accessible to ultra-high net worth investors (UHNI) and institutional buyers. Because of technological advancements, these products are now available to all investors, thanks to smaller-ticket offers. Most alternative assets, while potentially transferable, lack an active market. Therefore, it makes it difficult to dispose these assets at a reasonable price.

Do we see some benefits in investing in these alternative assets?

Alternative assets have the ability to generate better returns than traditional assets. Of course, these additional gains come with a greater risk. Alternative assets tend to have a lesser correlation with traditional assets. For example, high-yield bonds are less vulnerable to interest rate volatility than standard debt products. Fixed deposits provide consistent and reliable returns, but they do not outperform inflation, particularly after taxes. High yield bonds have the ability to provide 10-12% returns and outperform inflation even after taxes.

While typically geared at institutional or qualified investors, alternative assets are now available to individual consumers through alternative mutual funds. Technology and Fintech platforms have aided the ‘sachetization’ of alternative asset propositions. Investors may now invest in a variety of assets with extremely low purchase sizes, allowing them to diversify their portfolio. Options such as fractional real estate and Reits allow investors to participate in real estate at a considerably lower capital than investing exclusively in actual real estate, which is typically too capital intensive for regular investors to consider.

Do these alternative assets have risks?

There are anyways risks attached to alternative assets, and these are discussed below:

1. Alternative investments are not entirely free from market volatility. A downturn in the marketplace for real estate may have an influence on Reits and InvITs’ returns. Similarly, a sluggish equity market will have an impact on unlisted and private equity investments.
2. Credit risk is the likelihood that the issuer of debt will fail to repay principal and interest on time. To mitigate this risk, an investor must conduct rigorous due diligence. When investing in high-yield bonds, investors can only consider investment grade (credit ratings ranging from AAA to BBB-) and secured bonds.
3. Investors need to prioritize liquidity while investing in alternative assets. Most alternative assets are somewhat illiquid, especially when compared to their traditional equivalents. Investors, for example, are likely to have a far more difficult time selling an 80-year-old bottle of wine than 1,000 shares of Reliance Industries Ltd due to the restricted number of purchasers for these alternative assets. Consider the following scenario: an investor has to immediately sell his asset because he needs the money. Because there may not be an active or substantial market for these alternative assets, they may be unable to sell them reasonably or fast without suffering considerable transaction costs or value loss.
4. When investing in Fintech platforms, it’s important to choose reputable ones to avoid frauds. Because of the distinctive nature of these investment products, consider the dealer’s repute while researching trade opportunities, even if it comes at a cost to you.
5. Valuing alternative investments can be challenging due of their rarity and associated transactions. For instance, a seller of ancient art may struggle to determine its worth because the work is unique and only one may be legitimately acquired.
6. Limited regulation makes alternative assets vulnerable to investing scams and fraud. Alternative investments are frequently subject to less defined legal frameworks than traditional investments. Therefore, while examining alternative assets, investors must undertake comprehensive study before investing.
7. Alternative investments may incur more fees and charges than regular investments due to their restricted accessibility. As an example, private equity and hedge funds frequently charge large maintenance and performance fees, which can drastically lower investors’ profits.
8. Alternative investments may be challenging to collect market data on price and trends due to their lack of public trading. Some alternative investments may be less regulated, increasing the risk of fraud, conduct issues, and other violations.

It should be noted that risk categories change amongst various types of alternative assets. As we know about something new, investors should start slowly and grow acquainted with the asset class before making large investments. Overall, given to their complexity and illiquidity, these alternative assets may not be suitable for novice investors.