What Are Alternative Investments?
Most people know about the common types of investments such as stocks, bonds and cash. There is, however, another lesser known asset class which has greater growth potential and has been gaining popularity as investors search for higher returns amid the recent low yield environment.
Fondly called “alts” in the Alternative Investment market, alts are making their way into the portfolios of even retail investors, though they were once the domain of institutional investors and high-net-worth investors.
What Is ‘Alternative Investment’?
Broadly, any tangible or intangible item of investment that is not a stock, bond or cash can be considered an alternative investment. This means fixed deposits, equity and fixed income-based instruments, such as mutual funds, ETFs, and insurance linked products are not included in alternatives.
Most alternative investment assets are held by institutional investors or accredited, high-net-worth individuals for diversification and portfolio enhancement purposes.
There is a broad range of alternative investments spanning from liquid to illiquid assets, public exchange-traded instruments vs. private markets and the list goes on as below.
Alternative Investments in Singapore have traditionally been invested through more exclusive channels like hedge funds, family offices, private banks and asset management firms, although increasingly, some niche Fintech digital platforms have been offering them as well.
Who is suited for Alternative Investments?
Alternative investments are not really for every investor in the market. The complexity of their investment characteristics and uniqueness of the risk-return profile makes them suitable only for extremely high-net worth investors.
Even amongst the HNW investors, considerations must be given for investment objectives, acceptance and ability to withstand volatile market conditions, before going for alternative investments.
Types of Alternative Investments
This is by no means an exhaustive list of alternative investments available globally, categorized in two broad categories.
Collectibles Alternative Investments
Examples are antiques, art, luxury goods, old coins and special mint coins. These are usually valued by the perception of buyers and other factors such as who created the art piece, rarity and age of the collectible.
Aviation / Marine financing
This asset class includes everything related to the industry, such as private jets, commercial aircraft and cruise lines.
An age-old model for generating income, it involves purchasing any kind of equipment and renting them out to other firms. The machinery is usually too expensive, or isn’t feasible, for renters to purchase on their own.
Similar to equipment leasing, an investor provides funds for the production of the film and gets a cut of the profit.
This is a right or licence to carry out a particular business chain that is sold to entrepreneurs.
Gold / Silver
These come in the form of bars, bullion or jewellery.
Examples are real estate/property, overseas properties, infrastructure, commodities, natural resources, agricultural land and timberland. These physical assets have intrinsic worth due to their potential for asset enhancement.
Other terms are algo trading, automated trading and black-box trading. Trading is done using a computer program proprietary to the firm employing it. Algo trading enables the automation of trade execution, which allows for efficiency, precision, and reduces the emotional interference of a human trader.
Stocks And Bonds
Simply stated, stocks are a share in the company’s assets as well as earnings. With the increase in the number of publicly traded companies in Singapore, investors now have better opportunities to invest in unique stock portfolios.
Bonds are debt securities which could be government, corporation and municipality. Here, the issuer of the bond returns the borrowed amount (capital) as well as accumulated interest (at prefixed rates) to the investor.
Individual investors pool funds to provide funding for a business or project, and profits are then subsequently shared with the investors later.
Cryptocurrencies are digital assets people use as investments and for purchases online. Real currency (also known as fiat money), like dollars, are used to buy “coins” or “tokens” of a given cryptocurrency.
Angel Investing / Venture Capital
Investment into start-ups or young businesses that have strong growth potential.
Refers to the bonds or loans bought from companies that have filed for bankruptcy or are very likely to file for bankruptcy in the near future, with the intention of gaining control of the company once it does enter bankruptcy.
Run by fund managers with mandates to achieve absolute returns that are uncorrelated to the alternative investment markets (or simply put, they aim to achieve positive returns regardless of market conditions), typically by using more sophisticated trading tools, portfolio-construction methodology and risk management techniques.
IP refers to creations of human intellect such as patents, music, novels, inventions, trade secrets and trademarks, where they may be entitled to royalties which are essentially future income that can be sold.
Also known as legal financing or third-party litigation funding (TPLF), it provides a party who lacks the funds to litigate or arbitrate a claim or obtain funds to be repaid from any eventual recovery.
P2P lending is the lending of money to individuals or businesses through online platforms. Lenders use the platform to finance others’ loans in return for interest on the money lent out.
Capital that is invested directly in private companies that are not listed on a public exchange with the aim of refreshing the management team or streamlining business processes to enhance the value of the portfolio company.
A digital platform that provides retail investors with a low-cost, automated financial planning service based on pre-set conditions that include factors like age profile, risk tolerance, time horizon and a few others.
Debt security which offers returns based on the underlying instruments such as equity indexes, single equity, a basket of equities, interest rates, commodities, or foreign currencies.
Financing the enablement of fulfilling an order between two businesses and earning a cut of the profits.
Upside Of Alternative Investments
They can be a good way to diversify your portfolio and help reduce your exposure against the volatility of stock markets.
Higher potential returns
The sky is the limit when it comes to certain assets under alternative investments. Some unconventional assets are governed by different factors, such as exclusivity, supply and demand, as well as perception.
Hedge against inflation
Alts have the potential of gaining far higher returns than traditional investments, thus providing a higher profit margin against inflation.
These are not available in traditional investments in some countries.
Potential reduction in overall volatility
Since the performance of alts does not correlate with stock and bond markets, they often help to reduce overall volatility within traditional investment portfolios.
Downside Of Alternative Investments
Potentially higher risk
Risks come from a lack of understanding, hence it is important to make sure you understand the alts that you are investing in.
Some alternative investments are harder to sell if an investor suddenly needs to liquidate. This is mainly due to nicheness, such as minted gold coins, sculptures and rare wines, with a lower demand and a lack of a centralized exchange.
However, alternative investments encompass many different types of investments and there are highly liquid alternative investments available as well. We will cover these more in-depth in our next article on Myths and Misconceptions of alternative investments.
Difficult to value
Collectibles such as art, old coins and premium alcohol are examples of hard-to-value assets. These require specialist knowledge and specific platforms for the asset to be liquidated.
Lack of regulation
Some alternative investments do not have clear regulations. Hence, they are not subject to reporting requirements to a government authority.
The Story Behind The Increasing Popularity Of Alternative Investments
A study by IMF economists measured the aftermath of the 2008 global financial crisis, ultimately triggered by the collapse of Wall Street’s giants. Advanced economies and commodity-exporting low-income developing countries were harder hit than others.
Few saw the recession coming. It was an epic financial and economic collapse which cost many ordinary people their jobs and retirement funds.
Investors realized that diversification beyond traditional asset classes is necessary as equities and fixed income have become increasingly correlated. Since then, as investors seek to preserve their capital and hedge against risk of future economic downturns, liquid alternative investments have proliferated.
Additionally, with technology advancements, online digital platforms that enable fund-raising and crowdfunding sprouted over the years, providing access for the wider public to partake in such investments.
Considerations During Covid-19 In Singapore
Singapore has always been an attractive location for the alternative investment industry. The reasons: positive growth outlook, political stability, sound business and regulatory environment, wide distribution channels, financial incentives, robust infrastructure and more.
Despite the global COVID-19 pandemic, the outlook for alternative investments in Singapore remains promising for a few reasons:
- global investors looking at Asia-focused funds and Singapore is the financial hub of this region
- new family offices and hedge funds being set up in the country – Singapore has seen an influx of capital, especially from China/Hong Kong
- healthy fund launch activity – many are using the variable capital companies (VCC) structure, which is a more operationally and tax-efficient fund structure
Tips For Would-Be Investors
The over-ruling principle for investors who wish to dive into alts is: know what you are getting into. You will need to understand the type of assets you have chosen or that you have been advised to invest in.
Of course, working with an asset management firm or a wealth manager will help to cover your bases. They should be able to guide and advise you accordingly.
However, given that alternative investment is a niche and diverse asset class, it is uncommon for a typical advisor to have in-depth knowledge in all areas of alts.
Hence, should you be interested in alts, you should understand the objective and logic of adding it to your portfolio and ask the specific alts fund manager all the questions possible.
Some of them are:
- What type of alternative investment is it?
- How liquid is the investment? Does it have a lock-in period?
- What are the redemption terms – daily/monthly/yearly?
- What are the fees involved?
- Are there other hidden costs?
- Does it correlate with other asset classes?
- Where is the investment domiciled? What are the tax implications?
- What are the risk factors? What are the safeguards in place to preserve my capital?
- What are the funds’ safety measures?
The bottom line: alternative investments in Singapore are becoming more popular among investors due to their benefits outweighing those of traditional investments. Serious investors should consider adding alternative investments to their portfolio to enhance their overall returns, reduce the potential negative impact due to the increasingly prevalent black-swan events, and hedge the portfolio risks with uncorrelated returns from alts.
Also read our article on “ALTERNATIVE INVESTMENTS – 10 MYTHS AND MISCONCEPTIONS DEBUNKED”
Salzworth Global Currency Fund
Zhi Xin is part of the Salzworth FX team and is focused on sales and business development efforts for the Salzworth Global Currency Fund. Prior to joining Salzworth, she was in the Vistra Alternative Investments team leading their SEA regional business development efforts in launching new fund structures and providing fund administration solutions. Zhi Xin started her career at Bank of America Merrill Lynch in Singapore, where she served on their FX and Money Markets desk. With a decade’s worth of experience in the industry, Zhi Xin provides deep expertise in alternative investments and fund management.