Traditional And Alternative Investment Options
With evolution materializing in every segment of the global ecosystem, the financial sector is no exception to this. The new-generation HNWIs are pushing boundaries while choosing their investment options. In the present-day scenario, stock exchange is no longer the only synonym for investment. There are other contemporary equivalents — alternative investments — that offer potential ways to grow money and that are gaining popularity amongst the new-generation HNWIs.
While some still believe that traditional investments are the only way to building wealth, others are more willing to explore the alternative investments path. Traditional and alternative investments have obvious distinctions enunciated further below in this account. When making a choice between the two, it ultimately comes down to one’s specific circumstances such as surplus funds, expected liquidity, and active or passive management of the investment portfolio, among others.
To explore the differences between the two investing options, it is necessary to understand their definitions first.
- Traditional investments: This involves investing in well-known and well-explored assets — stocks, cash and bonds.
- Alternative investments: Anything other than stocks, cash and bonds are considered as alternative investment options. These include real estate, hedge funds and commodities.
Traditional investments involve trading and investing in public markets, attracting stringent regulations. They have lower barriers to entry and are relatively more liquid. Entry/exit fees and management charges are comparatively lower.
For alternative investments, investors can consider hedge funds, real estate, commodities, precious metals, art, initial coin offering (ICOs) and venture capital. Alternatives can potentially offer a higher return on investment with effective portfolio management; however, the inherent risks are significantly higher. They require a longer hold duration to realize gains and are considerably illiquid when compared with traditional investment channels e.g. real estate.
Navigating the fundamental distinctions between traditional and alternative investment options allows making the right choice for oneself much simpler. Below is an attempt to elucidate these differences by segmenting them for clarity.
Investment And Fees
A key difference between traditional and alternative investments is their fee structure and minimum entry requirements for investment. Traditional investment options such as mutual funds require a lower minimum investment, whereas alternative investments such as hedge funds have a higher entry threshold. Alternatives are also subject to annual portfolio management fees ranging between 1% to 2% of the funds’ assets and high performance-sharing fees up to 20% of the profits.
Liquidity is an important factor to consider while investing. Redeeming funds from traditional investments mutual funds is simpler compared to alternative investments. The best-case example of illiquid investments is real estate. It is challenging to achieve liquidity at short notice through the sale of real estate assets.
This probably will be the first aspect an investor thinks about when looking for investment options. When it comes to return on investments (RoI), the alternative choices have the upper hand, producing much higher returns than the traditional investment options. Even during difficult market conditions, these alternative choices manifest positive RoI, whereas the traditional choices tend to take a hit. Edward Egilinsky, Managing Director at Direxion, stated to Forbes that “when you look at it from a longer-term perspective and take different bear markets inequities that have occurred over the last ten-plus years—2001 for example, or 2008—a lot of alternative strategies—managed futures, long-flat commodity strategies, long/short currency strategies—have actually have shown positive returns during those periods of time.”
Regulations governing traditional and alternative investments vary greatly. Publicly-listed stocks are subject to compliance by the market regulator, e.g. SEBI in India. Unlike the traditional investment options, alternative choices like hedge funds are exposed to minimal regulations, greatly increasing the investors’ vulnerability to fraud.
HNWIs And Their Alternatives
Newer generations of high-net-worth individuals (HNWIs) exhibit contrasting investment behavioural patterns compared to earlier generations. New-age investors are open to exploring non-traditional investments such as social venture capital and infrastructure projects financing. Below are four of these alternative investment options that HNWIs are investing in:
New technologies such as artificial intelligence and machine learning provide attractive investment options through venture capital channels. Outlier ventures and forward partners are two types of venture capital firms that invest in tech startups.
Nostalgia and novelty
Nostalgia investments are gaining traction among HNWIs. The rarest prototypes of action figures such as Han Solo, Princess Leia and Luke Skywalker from Star Wars were auctioned by a Dubai-based collector in the year 2018. Another rare item, a poster of ‘The Empire Strikes Back’, was sold for USD 26,400. Political memorabilia is another new, unusual investment class that is gaining popularity – Bulgari’s diamond, ruby and sapphire ring sold for USD 319,500 at the Christie’s auction of Ronald and Nancy Reagan’s estate.
Initial coin offering (ICOs) are contemporary investment options and to participate in an ICO, one needs to purchase cryptocurrencies such as Ethereum or Bitcoins. These digital currencies can, in turn, be used to purchase the tokens sold by the companies that are releasing their ICOs.
The market for contemporary art has been expanding rapidly over a couple of years and the new generation HNWIs have been the main contributors. Internationalisation of art from across Latin America, South Asia and China is also gaining popularity.
Making A Choice
Investments should be made after gaining a thorough understanding of traditional and alternative investment options. It is always advisable to opt for a well-diversified portfolio. At Legacy Investment Managers, we provide optimal solutions that result in higher net worth for each of our clients.