What Are Alternative Investments? 

Wondering how to diversify beyond stocks and bonds? Private markets offer accessibility and opportunities for investors seeking to amplify returns and diversify holdings. Investing in alternative assets like real estate, hedge funds, and private equity can offer greater diversification and growth potential. In this article, you’ll learn what alternative investments are and how they compare to traditional investments.

Key Takeaways

• Alternative investments are investments beyond traditional ones like stocks and bonds; and may include hedge funds, real estate, private equity, cryptocurrency and commodities
• Alternative investments are often speculative and less regulated, requiring investors to have specialized knowledge and a higher risk tolerance due to their complexity and illiquidity.
• Incorporating alternative investments as part of a broader asset allocation strategy can help protect against market volatility and inflation, while financial advisors play a crucial role in guiding investors through their unique challenges and opportunities.

Alternative Investments Definition

Alternative investments refer to investment opportunities outside of traditional financial markets such as stocks and bonds. They encompass a broad range of financial assets such as:

• Hedge funds
• Private equity
• Real estate
• Commodities
• Art
• Cryptocurrency
• Alternative investment products

Unlike traditional investments like stocks and bonds, alternative investments often involve speculative investment practices and can be highly illiquid, meaning they are not easily sold or exchanged for cash without a substantial loss in value. They are typically designed for long-term investment horizons and can provide unique diversification benefits to an investment portfolio.

One of the distinguishing features of alternative investments is their regulatory environment. Many alternative investments are less regulated by authorities like the Securities and Exchange Commission (SEC), which can offer both opportunities and risks. This reduced regulation allows for greater flexibility in investment strategies but also requires a higher level of due diligence and expertise from investors.

Understanding Alternative Investments

Alternative investments are financial assets that do not fall into one of the conventional investment categories, such as stocks, bonds, and cash. These investments can include private equity or venture capital, hedge funds, managed futures, art and antiques, commodities, and derivatives contracts. Real estate is also often classified as an alternative investment. Typically, alternative investments are utilized by institutional or accredited investors due to high entry requirements and associated risks. While alternative investments can generate higher returns, they are higher risk compared to traditional investments.

The complex nature of alternative investments, combined with their lack of regulation and degree of risk, sets them apart from traditional investments. Many alternative investments come with high minimum investments and intricate fee structures. Unlike conventional assets, alternative investments do not have the same disclosure requirements to publish verifiable performance data and advertise to potential investors. Transaction costs are generally higher due to reduced levels of turnover, but the illiquidity of these assets can pose significant challenges. Investors may find it difficult to even value alternative investments, as the assets and transactions involving them are often rare.

Alternative Investments vs Traditional Investments

While traditional investments such as stocks and bonds are known for their liquidity and accessibility, alternative investments often come with higher complexity and risk. Traditional investments are generally more stable and predictable, offering returns that are relatively easy to forecast. In contrast, alternative investments can yield significantly higher returns but with greater volatility and risk.

Accessibility is another key difference. Traditional investments are accessible to a broad audience, with low initial capital requirements and abundant information available to the average investor. On the other hand, alternative investments often require substantial initial capital and specialized knowledge, making them more suitable for experienced investors and institutional participants.

Alternative investments typically encompass a variety of asset classes beyond the traditional stocks and bonds, offering unique benefits such as enhanced diversification and the potential for higher returns. This broader range of asset classes allows investors to tailor their portfolios more precisely to their risk tolerance and financial goals.

Benefits of Alternative Investments

Integrating alternative investments into your portfolio can help reduce overall risk by providing a buffer against market fluctuations¹. Some alternative investments often have a low correlation with traditional market assets, meaning their performance does not always move in tandem with stocks and bonds². This characteristic makes them an option  for protecting your portfolio during periods of stock market volatility.

One of the primary benefits of alternative investments is their potential for higher returns. Alternative assets, such as private equity, have historically outperformed traditional asset classes when reviewing data over the last 25 years, appealing to investors seeking growth³. Additionally, some alternative investments, like real estate, provide strong income returns, often surpassing those from conventional investment vehicles⁴. A recent study by global investment firm KKR estimates that the alternatives market is expected to grow to over $28 trillion by 2028⁵.

Including alternative investments in your portfolio can also offer a hedge against inflation⁶. This ability to potentially safeguard against inflation and economic instability further adds to the appeal of alternative investments for long-term investors.

Common Types of Alternative Investments

Alternative investments encompass a wide array of financial assets that do not fit within traditional categories. Here, we explore some of the most popular types of alternative investments, each offeringbenefits and opportunities for portfolio diversification.

Cryptocurrencies

Cryptocurrencies are highly volatile digital assets that leverage blockchain technology. While speculative, they offer high growth potential for risk-tolerant investors. Notable cryptocurrencies include Bitcoin, Ether, Ripple’s XRP, DOGE, and Solana.

Real Estate

Investing in real estate can provide both current cash flow and potential long-term capital appreciation. Real estate investments often generate recurring income through rent, making them attractive for those seeking passive income. Additionally, real estate can serve as a hedge against inflation, as property values and rents typically rise during inflationary periods⁷.

Real estate investment trusts (REITs) offer a way to invest in real estate without directly owning property. REITs pool investors’ funds to purchase and manage real estate assets, providing a more liquid and accessible way to invest in this asset class.

Hedge Funds

Hedge funds are investment funds that use various strategies to earn active returns for their investors. These strategies often include leverage, short selling, and derivatives to maximize returns. Hedge funds can achieve high returns, but they also come with higher risks and complexities compared to traditional investments.

One common strategy used by hedge funds is the Equity Long/Short approach, which involves taking long positions in stocks they have determined are undervalued while shorting stocks they believe are overvalued. Another strategy, Equity Market Neutral, aims to maintain net equity market exposure no greater than 10% long or short, which is intended to reduce market risk.

Private Equity

Private equity involves investing directly in private companies, often providing not just capital but also industry expertise to help these companies grow. These investments typically involve investing in or acquiring private companies with the goal of improving their operations and increasing their value. Successful private equity investments can lead to significant returns, making them an attractive option for investors.

Private equity investments usually require a long-term commitment, often spanning several years, to realize their full potential. This long-term horizon can be appealing for investors looking to diversify their portfolios and achieve substantial growth over time.

Precious Metals

Investing in precious metals like gold and silver is often considered a hedge against economic uncertainty. During periods of economic instability or market volatility, precious metals can act as a store of value⁸⁹.  This safe-haven status makes precious metals a popular choice for investors seeking to protect their portfolios.

Precious metals can also serve as a diversification tool within an investment portfolio. By including assets that perform differently from traditional securities, investors can potentially mitigate risk and enhance their portfolio’s resilience against market fluctuations.

How Financial Advisors Approach Alternative Investments

Incorporating alternative investments into your portfolio may be a strategic move. Increasing exposure to alternative investments reflects a broader trend among financial advisors, with 91% planning to increase their investments in alternative asset classes in 2025, according to a survey from the fintech investment platform CAIS¹⁰. In line with trends seen from previous years, 92% have already allocated some of their clients’ portfolios into alternative assets¹¹.

Financial advisors recognize the competitive edge that offering alternative investments provides¹². Access to these investments is seen as beneficial for helping clients achieve their financial goals, with 91% of advisors viewing it positively¹³. Additionally, 63% of advisors believe that providing access to alternative investments aids in attracting new clients, while 53% see it as a way to increase their share of existing clients’ assets¹⁴.  Moreover, 86% of advisors suggested that offer alternative investments to clients is commonly seen as a way to differentiate their practice from competitors¹⁵.

Considerations When Investing

Investing in alternative assets requires careful consideration of various factors that differ from traditional investments. One of the primary considerations is liquidity, as alternative investments are often harder to sell quickly compared to traditional assets. Investors must evaluate their personal financial circumstances and risk tolerance before committing to alternative investments.

Determining the value of alternative assets can be challenging due to their rarity and infrequent transactions. Additionally, high minimum investments and complex fee structures can pose barriers to entry for some investors. Despite these challenges, alternative investments can offer significant tax advantages, such as pass-through depreciation, enhancing overall profit retention¹⁶.

Carefully weighing these risks and complexities is essential for making informed decisions about incorporating alternative investments into your portfolio.

Alternative Investment Risks

Understanding the specific risks associated with alternative investments is crucial for investors. These investments often come with higher volatility and uncertainty compared to traditional assets. Assessing one’s risk tolerance is essential, as alternative investments can significantly differ in their behavior and potential returns.

Individual risk tolerance will determine the suitability of alternative investments in a portfolio. Investors must be prepared for the potential highs and lows, as well as the risk of entirely losing their investment, that come with alternative assets, ensuring they align with their overall financial goals and risk tolerance.

Complex Tax Structures

Alternative investments often involve complex tax structures that require careful consideration and understanding. These tax implications can differ significantly from those of traditional assets, necessitating thorough tax reporting and compliance. For example, certain alternative assets like collectibles may be subject to a maximum capital gains tax rate of 28%¹⁷. This is general information only, you should always consult with a tax professional for your specific situation.

Investors must be diligent in understanding the tax liabilities associated with their alternative investments to ensure proper reporting and avoid potential penalties. As mentioned above, always consult with a tax professional prior to making financial decisions.

High Minimum Investments

Many alternative investments may require substantial minimum contributions, which can pose barriers to entry for some investors. These minimum investments can be significantly higher compared to standard mutual funds and ETFs, making them less accessible to individual investors.

For instance, private equity funds usually require committing funds for a minimum of ten years to realize the potential growth from their investments. Investors must be prepared for these long-term commitments and ensure they have the necessary capital to participate in alternative investment opportunities.

Alternative Investment Funds

Alternative investment funds offer a way for individual investors to access a diverse range of alternative assets. These funds simplify the process of investing in alternatives, providing easier access and professional management.

Popular examples of alternative investment funds include the BlackRock Impact Opportunities Fund, various hedge funds, private equity funds, and private investment funds. These funds can offer significant diversification benefits and the potential for higher returns compared to traditional investment vehicles. However, be aware that these funds come with high risks and may result in a loss.

Alternative Investments Forecast & Trends for 2025

The market for alternative investments is expected to see new demand from key sectors in 2025, according to JP Morgan. Areas like real estate development and AI investing will likely continue to gain traction, offering opportunities for investors.

According to BlackRock’s 2025 Global Investment Outlook, private equity and private credit are expected to dominate the alternative investment landscape, driven by heightened demand for stable, non-correlated returns in an uncertain macroeconomic environment. Additionally, climate-focused investments, such as renewable energy infrastructure, are forecasted to grow substantially as governments and corporations accelerate their net-zero initiatives. With over $2 trillion anticipated to flow into sustainable alternatives by the end of 2025, investors are increasingly prioritizing strategies that balance profitability with ESG (environmental, social, and governance) goals. This shift underscores a growing alignment between investor demand and societal priorities.

Sources

1. https://am.jpmorgan.com/content/dam/jpm-am-aem/americas/us/en/insights/portfolio-insights/know-your-alternatives.pdf ↩︎
2. https://www.jpmorgan.com/insights/investing/investment-strategy/the-case-for-alternative-investments ↩︎
3. https://www.kkr.com/insights/private-equity-vs-public-market-returns ↩︎
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16. https://aspenfunds.us/benefits-of-investing-in-alternatives/ ↩︎
17. https://www.irs.gov/publications/p544 ↩︎