What Are Alternative Assets?
Conventional (or “traditional”) asset classes include cash, stock, and bond investments. Alternative assets are investments categorized outside of those traditional asset classes. By nature, alternative assets are often less liquid.
Since they tend to take longer to yield any material value, they generally require investors to commit to the long game instead of planning for short-term gains.
Below, Vint explains what sets alternative assets apart from traditional assets, and we’ll talk about the benefits of adding alternative assets to your portfolio.
What Makes Alternative Assets Different?
Conventional investments are made through public trades of cash, stocks, or bonds. The traditional way of investing is to go through public markets like the NYSE, SSE, and FTSE.
Businesses sell shares to the general population via stock exchanges through these markets. The Securities Exchange Commission (SEC) and the Financial Conduct Authority (FCA) regulate and impose heavy restrictions on conventional investments.
On the other hand, an alternative investment, or alternative asset, falls outside of the three conventional investment categories. The world of alternative assets is extensive, nuanced, and not as heavily regulated as to their traditional counterparts. Accredited high-net-worth individuals and institutional investors have traditionally been the ones to hold alternative asset investments.
Because they are not regulated heavily, it can be extremely difficult to find any valuable information on alternative assets. Additionally, access to the assets themselves tends to be exceedingly difficult with higher cost barriers of entry. Those are two ways that Vint has brought something new to the market. We are the first fully transparent wine investment platform, and we provide SEC-qualified shares of fine wines for under $100.
What Are the Key Characteristics of Alternative Investments?
There are a few essential characteristics that distinguish alternative investments from conventional investments. Let’s talk about liquidity, passive and active owners, and institutional or accredited investors.
When an asset is illiquid (not easily converted to cash), selling or exchanging for cash is more challenging than stocks or shares. Remember that you can sell a stock or share on the public market, and it’s usually a quick and easy process.
With many alternative assets, you will face withdrawal limits, such as lock-up periods and a high minimum investment threshold. Plus, it can be difficult to find investors who can or will buy all or a portion of the asset.
Property, debt (e.g., corporate bonds, municipal bonds, long-term, etc.), infrastructure, and art are some of the most common illiquid assets. Many alternative investment firms will impose lock-up periods on their funds.
During this time, you cannot liquidate your invested capital. The length of lock-up periods depends on the firm and the type of equity. For example, private equity and real estate investments often see lock-up periods of ten years or more, while hedge funds typically fall within 30 days to a year.
During hard lock-ups, an investor cannot access their capital during the specified period. But with soft lock-ups, you can access your capital as long as you pay a liquidity fee.
Most individuals who invest in traditional or public markets do so with a passive approach. It’s common for an individual from the general public to buy shares in a company they like on an exchange, which gives them a small ownership stake in the organization but in most cases, that shareholder will not be involved in or influence the day-to-day operations at all.
The situation is much different when investing in private or alternative markets. Most alternative investors will take an active role in the company’s management or the asset they are investing in. The reason is to play a role in growing the value of the alternative asset as much as possible.
Institutional or Accredited Investors
Alternative investments are generally held by accredited individuals or institutional investors. Essentially, an institutional investor is an organization that invests in assets for its members. These investors include insurance companies, endowment plans, foundations, and pensions.
An accredited individual has a net worth of over $1,000,000 or have made over $200k in each of the past two years. Alternatively, an accredited investor a can be an organization or entity with at least $5,000,000 of assets. Someone who has not checked the financial boxes can still be eligible for alternative investments if they can prove they have the job experience or education necessary to demonstrate adequate professional knowledge of unregistered securities. Unaccredited investors can also invest on platforms like Vint, that do no require investors to be accredited.
Alternative investors can buy unregistered securities with financial authorities, and they generally have specific requirements to meet.
What Are the Benefits of Alternative Assets?
Now that you understand the basics of alternative assets, let’s discuss some of the primary advantages of alternative investing:
Alternative assets are an excellent option for diversifying your portfolio. They usually come with a low correlation to the conventional asset classes, this means that adding an alternative asset to your portfolio can reduce your overall risks across all of your investments. Plus, many alternative assets can also serve as a hedge against inflation.
Alternative assets are notorious for their high returns, which have attracted investors throughout history. Of course, there is no guarantee that your alternative assets will yield a significant return, but history has shown certain alternative assets to yield higher returns than traditional assets.
With that said, many alternative investments come with a higher level of risk because the capital is inaccessible for long periods.
You can measure returns in various ways: relative and absolute returns. Generally returns are anticipated to fall in line with market movements, relative returns are measured against a benchmark. On the other hand, because investments are anticipated to perform outside of market movements, absolute returns measure relative to zero.
Your alternative assets will fall into one of two categories: return enhancers or return diversifiers. Return enhancers are assets in an investment portfolio that are expected to yield a higher average return.
On the other hand, return diversifiers are assets in a portfolio that are used to lower risk exposure across your entire portfolio, and they can do this because they barely correlate with your other assets.
Correlation refers to the relationship between the activities of two investments. More specifically, in investments, it measures the difference in returns. A perfectly inversely correlated value is -1, while a perfect linear correlation is +1.
In other words, two investments with a value of negative one will bring returns that move away from each other, and those that measure plus one will move in line with one another. By comparing equity markets to hedge funds, you can calculate correlations at an individual investment level (like two stocks) or an asset class level.
The sources of returns for any two investments being compared will primarily determine the correlation value. The factors that drive venture capital performance are different from those that spur buyout funds. Fixed income differs from equity market prices. You get the picture. Moreover, each investment strategy or asset class comes with specific risks, which can also cause correlations to vary.
One of the biggest advantages of investing in alternative assets is that they offer a lower correlation to the market than their traditional counterparts. One example is real estate investment, where the public equity market has very little bearing on returns. All hedge fund strategies and private markets run independently from traditional asset classes. Hedge funds do come with equity market risks, but you can trade additional assets and use leverage and shorting to lower their correlation.
Anyone who seeks to diversify their portfolio should prioritize low correlations. Most institutional investors establish target returns for each year because they want to protect their asset pool by limiting their capital’s exposure to the same risks. If one market performs poorly, having a different market with low correlation can offset the losses and set the institution up for consistent returns.
Better Risk-to-Reward Ratio
Investing in alternative assets typically comes with a high minimum and high risk. Therefore, most alternative investors are looking to the long game instead of investors who look to take advantage of the volatility in stock markets through short-term investments. That said, investing in wine through Vint offers the opportunity to invest in a relatively low-volatility asset class with a low cost barrier to entry.
More investors are adding alternative assets because of the advantages already mentioned. However, another key reason is that diversifying your portfolio with alternative assets can spread your risk across your investments, resulting in a better risk-to-reward ratio.
As business cycles contract and expand, the correlation between alternative and conventional assets fluctuates. However, they usually don’t fully converge, meaning investors who incorporate alternative assets experience fewer centralized risks and can reap the rewards far beyond their allocated capital within the industry. Adding alternative assets to your portfolio can reduce your overall risk while increasing your profit potential.
If you are looking to diversify your portfolio, reduce your risks, and enjoy the potential of high returns, investing in alternative assets can be right up your alley. While they are not as liquid as traditional assets, alternative assets are ideal for long-term investing.
Fine wine is one of the most promising alternative assets you can invest in. If you would like to learn more about our fully transparent investing platform, visit vint.co and reach out to our team to begin diversifying your portfolio!
Sources: Should Technology Change How the SEC Regulates Markets? | SEC What Is a Lock-Up Period? | The Balance What is Correlation? | Robinhood