Alternative Investments: Boom Or Bust?

If you’ve been paying any attention to the university endowment game, you know alternative investments have been a hot topic. In the past, Yale has credited alternative investments for its ongoing success. Meanwhile, other schools—including fellow Ivy-leaguer Harvard—have had different results.

This past spring, Forbes published a story suggesting that most schools would have fared much better if they had invested their funds in either the S&P 500 Index (SPX) or U.S. Treasury bonds, rather than trying to emulate Yale’s alternative asset model. In fact, these more traditional investments averaged more than 7 percent gains, compared to the average university endowment at just 5 percent. Even Warren Buffett has advised his wife to invest solely in a very low-cost S&P 500 index fund. Which begs the question: who is right?

Turns out, the answer isn’t quite that simple—and it also won’t be the same for every investor. To fully understand, it’s important to dive a bit deeper into alternative investments and how they fare against stocks and other traditional investment vehicles. The following are a few tips for those considering moving some of their cash from stocks to the alternative investment market.

Determine Your Goal

When it comes to investments in stocks, the goal is clear: make money. However, when it comes to alternative investments, that’s not always the case. Although some choose alternative investments as quick “portfolio enhancer”—showing higher potential gains with higher potential risk—others choose them to help reduce the overall risk in their portfolios. For instance, because investments in senior housing are tied more to demographics than the housing market, they can help decrease the risk of other investments more volatile to the market. Thus, while senior housing would technically be considered a higher-risk hybrid healthcare / hospitality / real estate investment, it could actually help manage the volatility of a stock-heavy portfolio. When determining if an alternative investment is right for you, determine which goal you have so that you can build your portfolio accordingly.

Not All Alternatives are Created Equal

And not all stocks and bonds are either. The alternative investment market includes everything from venture-capital and angel-capital start-ups in the tech industry, to investments in energy, commodities, technology, pharmaceuticals, and commercial real estate. Each of those markets carries its own individual level of risk—and potential gain—and each is tied differently to the market in its entirety.

Determine Your Desired Liquidity

In general, alternative investments, such as those in real estate or private equity, are not as liquid as others in the traditional marketplace. On the upside, they generally pay higher returns, and some pay passive income throughout the length of the investment period. To know if an alternative investment is right for you, you’ll need to determine how long you’re able to go without your cash. For some, investing in a Real Estate Investment Trust (REIT) or Equity Traded Fund (ETF) might be an easier bet than investing directly into real estate, for instance, as it allows for the potential benefits of alternative investing, but with the safety net of the potential for a quick sell.

Consider Overall Diversification

The act of investing in an alternative project does not diversify your portfolio in and of itself. For instance, if you own stock in Amazon.com (AMZN) and then choose to invest in a venture capital project funding an online book retailer, your portfolio is far from diverse. You might love books—but you may not love your total returns at the end of the quarter. To create a truly diverse portfolio, you need to carefully strategize each individual investment. A market investment in Facebook (FB) or Tesla (TSLA) could be balanced with an investment in health care real estate, just as an investment in Amgen (AMGN) could be nicely paired with a venture capital project focused on the next retail breakthrough. In the end, that pairing is up to you—but it must be different to be smart.

Remember: Passive Investments Rely on Managers

All funds that you invest in—whether they are private equity funds or ETFs—rely on fund managers to make investment decisions on behalf of their investors. Choosing one type of investment over another is not as important as choosing a strong investment manager over another. In the end, you want to look at performance history, trust, and transparency of the manager of any fund you choose. That will be the biggest tell of whether that fund is a good investment.

So—alternative investments: boom or bust? Turns out it depends largely on the investor—or more accurately, the investor's ability to choose a quality fund manager. Where Harvard earned lemons, Yale has consistently managed to make lots of lemonade. This proves it isn’t just what ratio of stocks and private investments one buys into, it’s also which ones, and who is managing them. After all, it always pays to be smart.

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Jess Stonefield is a contributing writer on aging, technology, senior care, housing, and the greater longevity economy for publications such as Forbes.com, Entrepreneur, and CNN Money. She is passionate about impact investing and the greater concept of “equitable equity”—spreading wealth to all levels of our society. Jess also serves as communications expert for Senior Living Fund.