Beyond Traditional Asset Classes: Exploring Alternatives
Stocks, bonds, and cash are fundamental components of an investment portfolio. However, many other investments can be used to try to spice up returns or reduce overall portfolio risk. So-called alternative assets have become popular in recent years as a way to provide greater diversification.
What is an alternative asset?
The term “alternative asset” is highly flexible; it can mean almost anything whose investment performance is not correlated with that of stocks and bonds. It may include physical assets, such as precious metals, real estate, or commodities. In some cases, geographic regions, such as emerging global markets, are considered alternative assets. Complex or novel investing methods also qualify. For example, hedge funds use techniques that are off-limits for most mutual funds, while private equity investments rely on skill in selecting and managing specific businesses. Finally, collectibles are included because the value of your investment depends on the unique properties of a specific item as well as general interest in that type of collectible.
Each alternative asset type involves its own unique risks and may not be suitable for all investors. Because of the complexities of these various markets, you would do well to seek expert guidance if you want to include alternative assets in a portfolio.
Tradeoffs You Need to Understand
Alternative assets can be less liquid than stock or bonds. Depending on the investment, there may be restrictions on when you can sell, and you may or may not be able to find a buyer. Performance, values, and risks may be difficult to research and assess accurately. Also, you may not be eligible for direct investment in hedge funds or private equity.
The unique properties of alternative asset classes also mean that they can involve a high degree of risk. Because some are subject to less regulation than other investments, there may be fewer constraints to prevent potential manipulation or to limit risk from highly concentrated positions in a single investment.
Finally, hard assets, such as gold bullion, may involve special concerns, such as storage and insurance, while natural resources and commodities can suffer from unusual weather or natural disasters.
Before investing in a mutual fund or ETF, including one that invests in any kind of alternative asset class, carefully consider its investment objectives, risks, fees, and expenses, which can be found in the prospectus available from the fund. Read it carefully before investing. REITs are also sold by prospectus.
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