Nearly every day, both analysts and the media cover the stock and bond markets, and market performance is often reported during the nightly news broadcast. However, did you know that if you solely focus on the public markets, you miss out on approximately 90% of the economy?
While stocks, bonds, and cash are fundamental components of nearly every investment portfolio, many other investments can be used to increase returns or reduce overall portfolio risk. Investments not traded on an exchange or in public markets are considered alternative investments. In recent years, the alternative asset class has become a popular way to provide greater diversification for a certain sector of investors.
The alternative asset class includes a wide range of asset types, such as commodities, real estate, hedge funds, private equity, private credit, structured products, futures, derivatives contracts, currencies, cryptocurrencies, art antiques, gems, and collectibles—nearly anything with an investment performance with a low correlation with that of stocks and bonds. Many also come with increased risk because of their illiquidity and lack of regulation, performance data, and analyst coverage. Of course, in exchange for increased risk comes the opportunity for enhanced returns.
When adding a different type of investment to your portfolio, you need to have a strategy that outlines what the investment will do for the long-term growth of your portfolio and if it makes sense in context with the rest of your plan.
Many types of alternative investments are held by institutional investors— banks, insurance companies, brokers, and trusts or accredited, high-net-worth individuals because of their complex nature, higher fees, and high-risk factors. Essentially, this class of investors is financially sophisticated and has a reduced need for the protection provided by regulatory disclosure filings that are required for public stock. Accredited investors have a minimum net worth of $1 million, excluding their primary residence or an annual income of $200,000 as an individual or $300,000 with their spouse. These investors are deemed capable of taking on increased risk.
At Henssler Financial, we often say, “follow the money,” meaning know how your investment makes money. With stocks, you’re purchasing a share of ownership in the company, which entitles you to a share of the profits. However, there are instances where we find value in alternative assets like hedge funds, private equity, and private credit. Hedge funds attempt to deliver exceptional risk-adjusted returns via hedging, characterized by taking bets in opposite directions, allowing investors access to strategies not available in a traditional equity investment context or within an ETF or mutual fund. Private equity provides investors access to control ownership in the large set of private businesses, which represent the vast majority of the U.S. gross domestic product. Private Credit is where investors provide debt financing to private firms. Typical arrangements include stricter terms than public, corporate debt allowing for increased investor protection and a floating rate provision.
Again, alternative investments are not an every-day investment that anyone should buy, but for sophisticated investors who have an appetite for more risk, these can present more opportunities than traditional investments.
If you have questions regarding alternative investments and if they are appropriate for your situation, the experts at Henssler Financial will be glad to help:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166
Listen to the October 1, 2022 “Henssler Money Talks” episode.