Diversifying your portfolio: exploring alternative assets
When it comes to investing, traditional assets such as stocks and bonds are often the go-to for many investors. However, in recent years, alternative assets have gained popularity among investors looking to diversify their portfolios and potentially increase their returns and reduce their risk. Alternative assets cover a wide range of investment strategies. For our purposes here, we will use the term generally to refer to any investment that does not fall into the traditional asset categories of stocks and bonds.
Historically, many alternative assets have provided a low correlation with the stock and bond markets, meaning they don’t necessarily move in the same direction as other assets when market conditions change. This is why, when markets are down, money often starts to flow into alternative assets.
What we are seeing today
Have investors developed a desire for something besides the familiar mix of stocks, bonds, and cash? Is the risk worth the reward? Let’s take a deeper dive into this trend and talk about some of the most popular alternative assets today:
Real estate: Real estate is one of the most popular alternative assets. It can include rental properties, commercial real estate, and even real estate investment trusts. Real estate is attractive to investors because it can provide both rental income and appreciation in value over time. It may also offer some protection against inflation. Several major target providers include an allocation to real estate within their products, and some retirement plans include a dedicated real estate option within their plan menus.
Private equity: Private equity involves investing in privately owned companies. Private equity investments can be made through funds or directly into companies. These investments often require a significant investment and are typically illiquid. Although the Department of Labor has shared some thoughts recently about the inclusion of private equity within asset allocation portfolios within retirement plans, this is not happening in any broad-based way currently.
Hedge funds: These are professionally managed funds that invest in a wide range of assets, including stocks, bonds, commodities, and currencies. Hedge funds are typically only available to accredited investors and often charge high fees.
Art and collectibles: Art and collectibles can include everything from paintings to classic cars. These investments are often highly subjective and require a deep understanding of the market to make informed decisions.
Cryptocurrencies: Cryptocurrencies are a new alternative asset class that has recently gained popularity. Cryptocurrencies are decentralized digital currencies that use cryptography to secure transactions and control the creation of new units. Investing in cryptocurrencies can be highly volatile and requires a high-risk tolerance. The Department of Labor is on record with substantive concerns about the appropriateness of Crypto investing in retirement plans.
Commodities: Commodities such as gold, silver, and oil have existed for centuries. These investments can provide a hedge against inflation and geopolitical risk. Investing in commodities can be challenging for individual investors and often requires specialized knowledge and research.
High risk, potential for high reward
As we have learned, alternative assets can provide a way to diversify your investment portfolio and potentially increase returns and/or lower risk. However, they often come with unique risks and require a deeper market understanding. It is important to do your research and consult with a financial advisor before investing in any alternative asset.
“Inflation has been high for the past year and a half but now it's trending in the opposite direction, which you could argue points to an economic slowdown,” explained Tim Swanson, Chief Investment Officer, Marsh McLennan Agency. “As inflation goes down, a lot of those alternative assets don't necessarily do all that well. Commodities typically do very well when you have a period of strong and surging economic growth. When the economy weakens, the reverse can be true.”
The most important thing to understand about alternative assets is that they can be risky. “It’s tough to classify every alternative asset, but as a broad statement, there's more volatility that comes with alternatives—which also comes with the potential for more gain,” said Zachary Rosenoff, Senior Investments Analyst, Marsh McLennan Agency.
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All things considered, Swanson noted that alternative assets typically make up a small portion of retirement plan investment menus and many of these options are not allowed to be included as an option. “Some of our plans have chosen to include a diversified real asset fund in their menu, which is a combination of a number of strategies, many of which would fall under the alternative asset's header,” he said. “Other plans include a real estate fund. Generally, these types of strategies represent a smaller category in the 401(k) space.”
If you’re thinking of investing in alternative assets, it’s best to consult a professional to ensure they fit into your plans and will help you meet your long-term goals. MMA offers solutions and tools to help you navigate this new financial landscape. Read MMA’s Financial Trends insights for more on this and other related topics.
