Alternative investments are categorised as anything outside of the mainstream equity and bond markets. They might include investment segments which are unregulated, or subject to less regulation than traditional equities, which may raise the risk factor somewhat. For this reason, most investors prefer to maintain a relatively small allocation towards alternatives in their overall investment portfolio, which can help to minimise any downside due to capital losses or illiquidity.
But while the risk is higher in the alternative market, the returns can be extremely attractive. As a result, many investors have been carving out more space in their portfolios for alternative investments. These include:
Cryptocurrency has been a popular alternative investment for the best part of a decade, and its popularity is only growing as crypto assets become more and more mainstream. According to some estimates, there are more than 9,000[1] cryptocurrencies available for investment, but by far the most well known is Bitcoin.
By mid-June 2024, the value of Bitcoin had grown by 75.89%[2] since the start of the year. Over the past five years, Bitcoin’s value has risen by a whopping 1,612.35%. However, it is worth noting that over the same five-year period, the crypto coin has shown a lot of volatility, with its value bottoming out no fewer than 10 times.
Peer-to-peer lending is a regulated means of lending money to businesses and individuals without relying on banks or other mainstream lenders. This means lower fees, which can translate into higher returns for the lender. At the time of writing, most UK-based peer-to-peer lending platforms were advertising target returns of between 5% and 15%, depending on the risk involved. Any investment which involves lending money will come with a risk of capital loss, as there is always a chance that the borrower will be unable to repay. For this reason, most peer-to-peer investors choose to diversify their money across multiple loans and platforms, to minimise any potential downside.
Hedge funds have traditionally been used as diversification tools in sophisticated investment portfolios. They follow a range of complex and high-risk strategies designed to produce above-average investment returns regardless of the macro-economic climate. These strategies may involve short selling, or trading non-traditional assets. According to Preqin data, by the end of 2023, hedge funds had returned 13 per cent on average to investors[3]. However, the success of these investments relies heavily on the experience and expertise of the fund manager, as well as a healthy dose of luck.
Digital assets can include any investments which are carried out on smartphones and laptops without third party intervention. Exchange-traded funds (ETFs), for example, can fall under this category. ETFs are index-linked funds which track the performance of various sectors and geographies. Since they use robo-advisors to make investment decisions, there are much lower fees than with traditional fund structures, allowing investors to actively manage their ETF portfolios with minimal intervention. While this reduces trading costs, it also means that the responsibility for risk management falls to the investor, rather than an investment professional, which can lead to unforeseen results.
[1] https://www.statista.com/aboutus/our-research-commitment/1008/raynor-de-best
[2] https://www.barchart.com/crypto/quotes/%5EBTCUSD/performance
[3] https://www.preqin.com/insights/research/quarterly-updates/q4-2023-hedge-funds
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