The world of alternative investments is rising and flourishing, and along with adequate returns it also carries many risks. How can you know that you have chosen exactly the investment that suits your needs?
The almost-zero interest rate that has accompanied us for a decade and a half, sent investors to search for channels that can yield highest return. Some investors turn to higher risk avenues in the capital market, and some to alternative investments.
Alternative investments is a general name for various investment instruments that are not traded on the capital market. Under this definition come a variety of different investments, with varying levels of risk and varying nature of risk. Starting with real estate investments, through crypto-currencies, hedge funds and private investment funds, and ending with investments in a social lending platform. Apart from the name, there is not much in common with alternative investments, but still, here’s what you have to know before investing.
Understand the nature of the risk
Alternative investments are generally characterized by a relatively high level of risk, and accordingly: the yield they offer is higher. This can be an excellent addition to a diversified investment portfolio: but those who this is their only money should pay attention to whether it is the right investment for them.
One of the most important things in examining an alternative investment is the deep understanding of the risk you are taking. Sometimes – what seems to be one type of risk, actually turns out to be a completely different risk.
For example, let’s say you choose to invest using a social lending platform. These are some of the possible risks:
- The business you lent to will collapse.
- A loan portfolio that you invest in will turn out to be problematic.
- The platform’s loan underwriting mechanism will turn out to be inaccurate and therefore the loss expectancy is higher.
Here’s another example. You invested in a real estate venture in the USA. The risks in this case can be:
- Construction permits will not be accepted.
- Turns out that the building that needs to be demolished for the project is protected.
- The building is not in an attractive location and there are no suitable tenants.
Each risk is different, and each risk is priced differently. Therefore, it is very important to understand your true exposure, and make the investment based on full information, and with the intention of taking the specific risk inherent in it.
Money liquidity
Unlike the capital market, where there is continuous trading in most instruments that ensures liquidity and the ability to exit the investment and meet your money at almost any given time, in alternative investment instruments the issue of liquidity is more elusive.
There are investments that require a minimum amount of time, others limit the ability to withdraw money in times of crisis – so that funds are not withdrawn only as a result of panic, and there are those where certain conditions are required in order for you to receive the money back.
Liquidity restrictions are of course compensated in the return, but pay attention to whether it suits you. If you are building on the money to be used in two years, note that you have not entered into an investment that is liquid only in another five years. If you need cash in times of crisis, note that the investment does not limit withdrawals during such periods.
Marketer’s identity
Another point to pay attention to is the identity of the people who offer you the alternative investments. While investment advisors in the capital market are subject to strict regulation and a requirement to work in accordance with license conditions from the Securities Authority, a license from the state is not required in order to market alternative investments, and this is done by a variety of people who appear under the names “financial planners”, “wealth managers”, “family growth managers” , and more.
Some marketers are very serious people, and some are not. When you are looking at an alternative investment proposal, one of the things that is important to check is whether there is an identity of interests between you and the proposer or developer.
For example: when you invest in an entrepreneur’s project in Florida, did the person marketing the project invest in it himself? Does the developer put money into the project, or only external investors? If there are profits – who gets them first? The higher the identity of interests between you and the marketers and investment leaders, the less red lights there are about it.