9.1 Alternative Investments Overview - 9.1 Alternative Investments Overview

Key Concepts

• Alternative Investments
• Diversification
• Risk and Return Characteristics
• Liquidity
• Regulation and Transparency

Alternative Investments

Alternative Investments are a broad category of investment assets that do not fall under traditional investments like stocks, bonds, and cash. They include assets such as private equity, hedge funds, real estate, commodities, and cryptocurrencies.

Example: A venture capital fund investing in early-stage startups is an alternative investment, as it does not involve traditional securities like stocks or bonds.

Diversification

Diversification in alternative investments refers to spreading investments across various asset classes to reduce risk. Since alternative investments often have low correlation with traditional assets, they can enhance portfolio diversification.

Example: A portfolio that includes both stocks and real estate is more diversified than one that only holds stocks, as real estate returns may not be influenced by the same market factors as stocks.

Risk and Return Characteristics

Alternative investments typically offer higher potential returns compared to traditional assets but come with higher risks. The risk-return profile varies widely depending on the specific asset class.

Example: Commodities like gold can provide a hedge against inflation and currency risk, offering potential returns but also exposing investors to price volatility.

Liquidity

Liquidity refers to the ease with which an asset can be bought or sold in the market without affecting its price. Alternative investments are generally less liquid than traditional assets, often requiring longer holding periods.

Example: Private equity investments are illiquid, as they cannot be easily sold on a public exchange and may require years before an exit opportunity arises.

Regulation and Transparency

Regulation and transparency vary significantly across alternative investments. Some asset classes are highly regulated, while others operate with less oversight, leading to varying degrees of transparency and investor protection.

Example: Hedge funds are less regulated than mutual funds, which can result in less transparency regarding their investment strategies and performance.