If one is known by the company they keep, it’s no wonder that many typical investors misunderstand alternative investments. “Alternative investments" are commonly associated with hedge funds, which bring to mind high risk, volatility, and news stories about greedy or unscrupulous fund managers, such as Bernie Madoff.
But there is much more to alternative investments, points out Ed Meek, CFP™ and founder and CEO of Edge Portfolio Management in Illinois. “Every investor would benefit from alternative investments,” he told Millionaire Corner. “If you limit your portfolio to traditional investments, they will be tied to fluctuations in the stock market. Alternative investments create broader diversification. They may zig while the stock market zags. By adding different layers of alternative investments, you can create a portfolio that is less volatile and can provide a steadier type of return expectation.”
Alternative investments also include commodities, mutual funds, and real estate, but it’s “a broad and vast category” that also includes precious metals, collectibles, and coins, Meek noted.
Risk tolerance, too, is misunderstood by the general public. “People are fearful of hedge funds because they are thought of as high leverage, very aggressive, and volatile,” he said. “That is certainly the case with some, but it is also the case with some mutual funds. I can find some mutual funds that have incredible volatility. It is the same with hedge funds; some are very aggressive and some are very conservative.”
Another common misperception, Meek said, “is that the ordinary investor doesn’t think they have access to them. They believe that only wealthy investors can invest in them. That may have once been the case, but today the typical investor has access to 400-500 mutual funds, hundreds of exchange traded funds (ETFs) and other types of alternative investments.
Collectibles, such as artworks, memorabilia and coins, have been given a boost by the popularity of reality TV shows such as “Storage Wars” and “Pawn Stars,” in which unearthed “treasures” are discovered to be valuable. These are longer term investments, Meek noted, and are best suited to those with the patience and affinity for them.
It is only natural, Meek observed, that investors who don’t fully understand alternative investments generally tend to not to seek them out. “But I believe they are a must for everyone,” he said. “They reduce volatility and provide better risk-adjusted returns. All investors should try to create a portfolio that doesn’t have all of their eggs in one basket. Alternative investments offer the advantage of having more baskets in which to put your eggs.”