Many retirees can opt for the alternative investments in their retirements, but before doing so take the time to think about it as they are not meant for everyone.
In this article, we will discuss the pros and cons of the alternative investments and most of the facts are presented by one of the leading investment advisory firms in California. The discussion with their senior officials is the main theme of this article.
Understanding the Alternative Investments
The alternative investments are those investments which are not done in the form of stocks or bonds, and these investments also represent cash.
Most of the investments besides this such as real estate including equity and debt, hedge funds, venture capital, private loans, reinsurance, partnerships in various fields, and many other royalties which you can earn from many areas can be the part of alternate investments.
Who Should Opt For These Alternate Investments
As per the discussions with one of the leading investment advisor firm in California they believe that most of the investors should have some exposure to alternative investments.
But the central questions which should be answered that what will the type of these investments, how you will make these investments and what is your particular situation to make these alternative investments.
Below you will see that the requirement for the alternative investments which are structured for the accredited investors:
Those who want to opt for the alternative investment should have at least capital worth of the one million and excluding their primary place of the residence.
If single should have minimum earning of at least $200,000 and if married or having a partner should have minimum earning of at least $300,000 in last two years and have the chances to continue these earnings for the coming years.
The investors who meet the accreditation requirements of the subscription and the also have the operating agreement of the investment can opt for the private investments.
One the main reason can be these investments are less in the form of a liquid for the heirs than other mentioned alternatives.
The client should be sure that they understand all the terms related to liquidity terms of the operating agreement, they should also understand that they have limited rights and have a proper insight of the roles played by these investments in their full financial planning.
It may happen that the investor does not meet the ‘accredited investor’ requirement and don’t able to invest in the private placements, but that does not mean that they can’t invest in other investments alternatives available.
These type of investors can also opt for publicly traded other investments and for doing this no accredited standard is required & they can easily choose to invest in gold, REITs, etc. as the 1940 act hedged mutual funds and reinsurance securities which have the same benefits as investors can get from private alternative investments.
While discussing with one of the first investment advisor firm in California that for an alternative source of retirement income one should have the core portfolio of non-alternatives before having alternatives and these alternatives are best suited to people with high net income.
But if you elevated net worth of revenue does not mean you have to invest in any other alternatives, if you are not comfortable with investing in other options you should not do it then.
Before making any investment, you should understand it and have basic knowledge of the field where you are investing.
From Where To Buy Alternative Investments
There are certain alternative investments which are in the form of mutual funds or exchange-traded funds, and these funds are publicly traded. You can buy these funds through brokers or also can manage to buy them from the sponsors directly.
When you are thinking about the private alternative investments than to target, the potential investment product is a big challenge.
Many large financial institutions can sponsor private funds, but these limited to accredited and qualified prospects. But besides these, there are various small sponsors out there who use to create and manage their funds.
It needs much amount of time to find out the alternative investment products as the information about these products is not readily available like stocks and mutual funds, so it is very time to consume to identify appropriate alternative investments, and also you need to screen it and need to conduct proper due diligence.
Why You Should Buy Alternate investments Products
There can be several reasons to own the alternative investments; I am mentioning few of them as below:
Higher Investments Returns & Income:
Interest rates are getting low day by day, and right now it is at its historic low in such scenario many investors are in search of alternative investments to have sufficient cash flow to have good retirement income.
There are many varieties of other income besides bonds and high dividend stocks that provide cash flow. Some of these alternative investments can be – real estate, reinsurance securities, royalties from healthcare and first trust partnership deeds.
Risk Can Be Substituted:
Whenever you create your investment portfolio, you always look for the risks involved in various investments.
One of the significant risk factors which are usually ignored is illiquidity. Most of the investors use to follow the traditional methods of managing and creating the portfolio which is having a very high degree of liquidity in the form of stocks and bonds and which will be satisfactory to you in the psychological terms.
In this, the form of payment is manifested in the form of lower expected returns. But you should understand that it is a very rare scenario when you need to liquidate your whole portfolio on a single given day, but the fact is industry use to motivate for the long-term investments.
So proper allocation of your portfolio as some portion should be not liquid and there is some illiquidity risk is there as we use to remove the risk from the other buckets like interest rate risk and price risk.
So, when you have different risk factor in your portfolio, you have already had a more diversified portfolio. Also, you can also earn premium which is available in public market by taking a certain amount of illiquidity.
Returns Which Are Not Related:
One of the main reason behind the financial crisis happened in 2008 was that there was a significant rise in the correlation in financial assets on contagion risk spread out globally.
Most affected were the real estate and hedge funds managers but still, there were many other talented managers who performed well in such a difficult market situation.
In addition to that certain alternative investments like reinsurance securities, real estate, gold and royalties performed well.
Good Downside Protection:
As per the history, bonds have always performed well and done an excellent job of cushioning the decline in the equity markets.
But during this low-interest rate period, most of us think that bonds won’t be so efficient. Also, many junk bonds and credit sectors have lost money as spreads widened out.
There is no chance right now that to compress and push up returns on bonds if sell-off is continued in these riskier assets.
So it always good to have some alternative investments which can replace traditional bonds and manages to protect when the market is on downside trend.
But still, there are many ways to own the bonds and protect yourself from the effect of the rise in the rates.
If you buy a bond which you have planned to own till maturity, then you are assured of the returns you will get when the bond matures, and the interim price fluctuations will not affect the returns or outcome.
How Much You Should Allocate For the Alternatives in Your Portfolio
There is not perfect or standard rule when you need to assign the alternative investments in your portfolio.
It is different from person to person so when you need to allocate the portion of alternative investments in your portfolio it should be done based on your financial planning and your investment objectives.
When you realize that properly you can allocate these other investments more accurately.
One of the risk factors which you should also keep in mind is that illiquidity risk for private investments.
You should understand what level you have enough liquidity in other assets so that you can achieve your financial goal.
You should also need to understand that some of the alternative investments are liquid on a daily or quarterly basis as per the 1940 act – mutual funds & exchanged-traded funds.
If you are new to alternative investments and never made any investments in this, then it is advisable that you should allocate about 5% to 10% of your portfolio for such investments.
Starting with small investments will give you experience and also you will be able to learn techniques on how to invest in this other investments. So, before making large investments, you can educate yourself about other investments.
Those who are already in their retirement should invest in these alternatives only if it is not affecting their major investment plan or portfolio.
But if you still afford to take the risk you can have an investment in this asset class but always remember there is nothing like free cookies, you have to spend your time to manage and control these alternative investments.
You should need to a trade-off in some kind to partake the high returns, as it is always possible that when you get higher returns from these other investments, it will work to reach your financial objective and only help in your plans.
Alternate Investments Types You Should Stay Away From
You should always keep in mind to stay from these alternative investments listed below and consider the key factors when looking out for other investments:
Conflicts of Interest:
You should always look for the elements whether the key decision makers can have a potential conflict of interest or whether their interests are aligned with the clients. If such is the case, you should always stay away from such type of alternative investments.
How Transparent They Are:
You should always analyze whether you are getting related and general information promptly, and also check out for are you having any access to information to provide you proper due diligence.
If the answer is not that positive, you should restrain yourself from investing in such alternatives.
You should also look out for the organization chart of the partnerships and also analyze the controls whether they are making your comfortable or not, these controls can be cash controls, independent auditor, administration and depth of their team, etc.
Analyze The Internal Motives:
You should also look out for the private investments of the partner like you should look out for whether the general partner has invested any significant amount of their net worth in the strategy they are managing and motivating you, if this is not the case then you should not invest in such alternatives.
Other significant things which you should consider while making or opting for alternative investment involves is the custodian, and IRA accounts are the part of financial plans for most of the clients, so all assets held is essential to register with a qualified custodian.
This in additions will present unique challenges for private partnerships and all these needs to study and vetted by your custodian before they get registered in their platforms.
Some of the self-directed custodians does not need any investment to go through a vetting process, but they usually charge higher fees for their administrative services to custody your account.
As an investor, you should always think of various costing before making any investments, and it is advisable that you should also consider of custody charges.
Photo by Aidan Bartos