What Are Alternative Investments?
As stock markets continue to falter across the globe, worries of a default on sovereign debt in Europe continue to mount, and inflation continues to erode the real value of savings, investors are considering alternatives to traditional assets such as stocks, bonds and cash. But just what are alternative investments, who is investing in them, and what are the risks involved?
Traditional investments are considered to be equities (shares), cash, bonds and property. Most investment portfolios are made up of a combination of these kind of assets, and financial advisors are trained to advise investors on the relevance of these kind of investments based upon their own specific set of circumstances. Investors have long invested in stocks for growth and income, bonds for income, and cash of income in the hope of building their wealth faster than the rate of inflation in order to provide for retirement or other life events such as school fees or maybe a house move.
An alternative investment can be any transaction entered into with the ultimate aim of generating capital growth in the value of the underlying asset, or regular income, that is not a traditional investment asset as detailed in the section above.
These kinds of assets have been very popular with institutional investors who want to diversify their portfolios and capture profit that is generated outside of the traditional markets. Some examples of investment alternatives are precious metals such as gold, art, fine wine, collectibles, farmland and forestry investments.
Alternative investments behave differently to traditional assets because capital growth is usually derived from an increasing demand and a finite supply, such is the case with gold, farmland, fine wine and art. The greater the demand, the higher the price and more profit for the investor. Income from alternative investments is not usually in the form of a dividend as with shares, but can be rental income from a property, or the sale of commodities produced by the asset such as crops from farmland or timber from forestry. This makes alternative investments popular because neither income nor capital growth is dependent upon the performance of stock markets or other traditional markets forces. This means that investors can turn profits, even in a downturn market.
Who is Investing in Alternatives
Large investors such as pension funds, hedge funds, family offices and high net worth individuals have been investing in alternatives for many years, in many cases generating excellent returns beating traditional markets by some margin. These investors are experts and understand the assets they are buying and how to value, manage and ultimately dispose of them effectively and profitably. Investing in art, for example, requires an extremely high level of expertise and knowledge to invest successfully.
Recently, institutional investors have started to buy more and more farmland and forests, as demand for all of commodities that farmland produces on annual basis such as food, animal feed and fuel, is growing in line with our expanding population. We simply require more and more of these commodities each year but we have very little farmland left that isn’t already in production. It is this increasing demand and limited supply that pushes up prices in the long-term, and the same can be said for forestry investment’s as humankind requires more and more timber to build and maintain our homes and cities, yet there is very little natural forest left to harvest so we must rely of commercially grown timber which takes many years to mature. Again, increasing demand and limited supply push up prices, creating profit for the owners of the assets.