Types of Alternative Investments to Diversify Your Portfolio

No matter how long you’ve been on your investment journey, maintaining diversity is key. Traditionally, “portfolio diversity” means having a healthy mix of stocks in different industries, which can help you weather the storm if a particular sector (i.e., Tech) experiences a downturn.

However, adding different types of alternative investments to the mix can help you diversify your portfolio even further. Here’s what you need to know:

What Are Alternative Investments?

Alternative investments, also known as alternative funds, are nontraditional assets that are typically less regulated by the Securities and Exchange Commission (SEC). Alternative assets carry a bit more risk than stocks and bonds, but they can be a good tool for diversifying your portfolio beyond the traditional asset classes.

Keep in mind that these nontraditional assets aren’t right for all types of investors. However, if you are interested in potentially high-return investments, you might want to explore some opportunities outside of stocks and bonds. 

Types of Alternative Investments

Given the complexity of nontraditional investment opportunities, it's generally advisable to focus on only one or two asset types. This way, you can take a deep dive into the respective markets and make informed decisions regarding your portfolio. With that in mind, some of the most popular types of alternative investments include:

Real Estate

Historically, real estate has been one of the best-performing alternative assets. Investing in real estate provides you with multiple opportunities to diversify your portfolio. 

One of the more common tactics involves purchasing rental properties, which can provide long-term recurring revenue. However, you’ll encounter some logistical headaches when taking this route, such as keeping up with repairs and managing renters.

Flipping houses can be a shorter-term option and a lucrative one. Nonetheless, it’s important to carefully inspect any potential flips to ensure that the rehab will not be too expensive or time-consuming. After all, the goal is to achieve a quick turnaround and make a healthy profit in the process.

Another popular approach involves out-of-state real estate investing. By looking outside your state, you can target more affordable areas to keep your costs down, purchase a home for short-term rental purposes in a tourist hot spot (e.g., near a beach or theme park) or simply tap into a more active buyer’s market. 

Real estate investment trusts (REITs) are yet another investment vehicle that you can consider. Under this model, you can invest in real estate without managing physical properties. 

REITs are companies that operate or finance income-generating real estate across multiple sectors. Investors can purchase shares of publicly traded REITs or seek out private offerings to engage with non-traded REITs. 

Crowdfunding

Through crowdfunding, you can invest in startups and gain an equity stake in emerging companies. Under this model, you’ll pool your resources with other investors to finance projects, businesses or ventures. At its core, crowdfunding is a scaled-down version of venture capital funding. Sites like GoFundMe fueled the rise of this investment strategy. 

The positive of this approach is that it could help you jump-start a successful company. If the venture thrives, you could end up with a new recurring revenue stream. However, if the startup fails, and many do, your investment will be lost. 

You can also invest in real estate with crowdfunding. Crowdfunding platforms allow you to pool your money with other investors to invest in different real estate projects, often with lower entry costs than traditional real estate investments. It can be a great way to diversify your investment portfolio and potentially earn a return on your investment.

It’s important to have a strong, diverse portfolio before trying your hand at crowdfunding. Don’t get lured in by the potential upside until you have achieved relative stability with your other investments. 

Commodities

A commodity includes consumer goods and raw materials, such as:

• Diamonds
• Cash crops
• Petroleum
• Precious metals

These types of alternative investments can help hedge your portfolio against inflation while also mitigating risks. There are multiple ways to access commodity markets, such as by investing in mutual funds, exchange-traded funds (ETFs) or commodity futures contracts.

While the premise of commodity investing may sound simple, navigating the market can be quite complex. Therefore, it’s important to carefully research investment options, including ETFs and the other aforementioned avenues so that you can decide which is the right fit for your portfolio. 

Gold and Precious Metals

Investing in gold and precious metals provides a hedge against inflation and market volatility, with options ranging from purchasing physical bullion to investing in gold stocks or ETFs. These assets offer stability and liquidity in times of economic uncertainty, making them attractive options for preserving wealth.

If you decide to purchase gold bullion, consider storing it in an insured safety deposit box, as keeping it at your home can create additional risks. Also, it’s important to track price trends over time to determine which metal to invest in and what quantity makes sense for your portfolio. 

Art and Collectibles

Highly collectible art pieces, some worth millions of dollars, are among the world’s most famous. The wealthiest members of society have been collecting art for centuries. Today, art and other collectibles, like fine wines and classic cars, remain highly sought after. 

There are some challenges with owning collectibles. First off, you have to maintain your rare item. Also, if you decide to sell, tracking down a buyer can be tough. While you may not have the means to buy and store a single masterpiece, you can purchase shares of individual works on sites like Masterworks. 

Purchasing shares on Masterworks works a lot like buying stocks. You identify what asset you want to invest in, select the requisite number of shares and make a purchase. It’s quite simple. 

If the value rises and you want to offload your investment, simply sell off as many shares as you’d like. On that note, it’s important to remember that art valuations may not align with mainstream financial market trends. Scarcity in the world of art collectors can cause large price fluctuations, potentially driving up the value of your stocks. 

Cryptocurrencies

Cryptocurrencies are based on a blockchain platform, which is a decentralized ledger that creates an immutable record of digital transactions. They can be traded on a variety of platforms and exchanges. However, you’ll need a digital wallet to store your coins, which can make the entire process a bit complicated. 

Cryptocurrencies are not sponsored by a government or backed by gold. However, several coins, including Bitcoin and ether, have become quite popular over the last decade. 

While cryptocurrency can be a good way of diversifying your portfolio, most coins are also quite volatile. If you’d like to brush up on the potential risks of cryptocurrencies, check out recent reports from the Consumer Financial Protection Bureau. 

Private Equity

Private equity investments involve investing in privately held companies through different strategies, such as venture capital (VC) or growth capital. These investments are used to support startups, facilitate business expansion or enable acquisitions, offering you access to unique opportunities for long-term returns. 

Private equity firms often use investor funds to purchase businesses. If the venture succeeds, you will receive a potentially sizable return. However, PE investing can be quite risky, especially if the firm primarily backs startups. That’s why it’s important to review the PE firm’s track record. 

Private Debt

Private debt offers companies an alternative funding source through loans or bonds, providing flexibility and customization in financing solutions. Private debt investments can help companies expand when traditional funding sources are unavailable or insufficient. 

So how do you get your money back? Typically, the company that borrowed funds will pay back the loan with interest. As long as the company doesn’t fail, this investment strategy can be relatively safe and reliable. 

Hedge Funds

Hedge funds are investment vehicles that pool capital from accredited investors and institutional investors to employ different strategies aimed at generating returns. These funds have more flexibility in their investment approaches. Typically, the money is allocated by a hedge fund manager.

Various types of hedge funds exist, including macro hedge funds. With these, you can make bets on macroeconomic trends and global market themes by investing in currencies, interest rates, commodities, etc. Another kind, an equity hedge fund, primarily involves investing in equities.

There are also relative value hedge funds. This type seeks to exploit pricing discrepancies or valuation differences between related securities or asset classes. Additionally, distressed hedge funds specialize in backing troubled companies to restructure them to unlock value. 

Allocating money to a hedge fund is a more sophisticated investment strategy. However, it may provide you with opportunities that aren’t available through traditional investment vehicles. 

Wine

Wine has emerged as a legitimate investment option due to its potential for appreciation over time and its unique characteristics as a tangible asset. Under this model, you’ll have the opportunity to own a physical asset with inherent value. 

Numerous factors influence the quality and value of wine, including the types of grapes used, the fermentation process and the aging techniques producers employ. There are several major wine-producing regions that you should familiarize yourself with before investing in this delectable beverage, including:

• Bordeaux, France: Known for its prestigious red blends, including Cabernet Sauvignon
• Burgundy, France: Renowned for its world-class Pinot Noir and Chardonnay wines
• Napa Valley, California: Famous for its bold and fruit-centric Cabernet Sauvignon wines 
• Tuscany, Italy: Home to iconic Italian wines, such as Chianti Classico and Brunello di Montalcino
• Rioja, Spain: Known for its traditional Tempranillo-based red wines 

While you don’t need to become a full-fledged sommelier to begin investing in wine, it's important to understand the culture behind this commodity. 

Advantages of Alternative Investments

Incorporating various types of alternative investments into your portfolio offers the following benefits:

• Diversification: Adding other investments to the mix can increase portfolio resilience.
• Increase in Return Potential: Many alt-investments have the potential to yield a high return.
• Protection Against Inflation: Most commodities will rise in value with inflation, reducing its impacts on your portfolio.
• Improved Portfolio Performance: Diversification can improve the consistency of portfolio performance.

Before capitalizing on the benefits alternative investments offer, it is important to understand the potential drawbacks associated with these investing options. 

Disadvantages of Alternative Investments 

Common disadvantages associated with alternative investments include:

• Higher Fees: When you buy, trade or sell alternative investments, you often pay higher fees.
• Higher Risk: Certain alternative investments can be quite volatile or risky.
• Lack of Liquidity: Selling assets like wine or collectibles can be difficult and time-consuming.
• Reduced Regulation: There are far fewer rules governing nontraditional investments.
• Complexity: Getting to know alt investment niches can be challenging.

Despite these concerns, adding a few types of alternative investments to your portfolio can be a wise move that supports your long-term financial goals. 

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Should You Explore Alternative Investment Strategies?

When it comes to building wealth and securing financial stability, traditional investment strategies like stocks, bonds, and real estate are the go-to choices for many investors. However, in today's ever-changing economic landscape, exploring alternative investment strategies has become increasingly popular.

While alternative investments can provide diversification benefits and potentially higher returns, they come with their own set of risks and challenges. Investors should approach these options with caution and seek advice from financial professionals when necessary.

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