The way to build wealth arguably is to own assets. You buy assets with money earned through your regular job, and assets grow in value over time, which builds your wealth. This growth can then be realised upon selling of the asset itself. Then, the funds received from selling the asset can then be used to reinvest into other assets to repeat this asset purchase and selling cycle. Over time, this is how wealth is amassed and financial independence is achieved. Now this doesn’t happen over night, and the concept of buying and selling assets is not easy. Most times, a professional financial advisor or your investment manager will look after this for you and advise you on certain financial decisions. It may be difficult to time the buying and selling of assets, and sometimes it isn’t clear whether an asset is even worth purchasing in the first place. This can be something as straightforward as knowing what stock to purchase, or something a bit more complicated such as timing a capital-intensive real estate investment.
As mentioned in Lesson 61, Alternative Investments, or AI for short, are typically things that are more illiquid, or harder to sell, that are outside of your typical equity investment or real estate investment. Alternative investments are usually more illiquid because they are unique in nature and cater to a very niche buyer and seller’s market. Alternative investments are assets that hold value, but may be more difficult to realise this value because the market for these goods are so niche.
Some common examples of alternative investments are:
Antiques or rare items
Art collections
Club Membership
Coin collections
Copyrights
Crypto currencies – I would consider any digital currency as an alternative investment (even though they can be readily traded) since a lot of the value is derived from speculation. This is probably the most common and easily accessible alternative investment to most people (doesn’t mean it’s the one I’d personally recommend…!)
Partnership stake at place of employment (law firm, retail finance firm)
Patents
Physical gold or other precious metals
Pop Culture Memorabilia
Sports memorabilia and card collections (mentioned in Lesson 53) – this is my personal favorite and primary focus for my own alternative investment allocation in my overall portfolio
Trademarks
Vintage automobiles
Wine collections
Owning investments that are alternative in nature may seem silly to some people, but it is important to consider having a small portion of your overall asset portfolio dedicated to these investments. Alternative investments offer a way to diversify away from public equity markets because of their limited reliance on these markets to derive their value. Owning a rare ancient Greek coin collection will have a very niche market of buyers, and its value has little to no relevance to the trend of the S&P500, for example.
With this said, there is still risk with owning alternative investments. Liquidity risk is a huge concern with these types of assets because like I mentioned before, selling these assets won’t happen over night, and the market to buy and sell these kinds of assets is much smaller than the public equities market. Some would say that alternative investments may seem speculative in nature since it’s difficult to price these assets given the existence of few comparables.
Another risk with alternative investments is that many people may justify frivolous spending as “alternative investments”. It’s important to consider what you are purchasing is actually an asset with value, and whether purchasing such assets is leaving you with sufficient cash levels in your bank account. The last thing you want to do is have a cash problem and not have any breathing room for regular day to day expenses and bills.
As a result of these aforementioned risks, the alternative investments portion of your overall portfolio should always remain small, and should never be depended upon for quick access to capital. A suggested rule of thumb is that alternative investments should not exceed more than 10% of your total asset portfolio value, or 20% of your total equity portfolio value (be mindful of the difference between the total value of assets you have, and the equity value of what you actually own in those assets) . These are my own rules of thumb based on my own experiences of buying, owning, and liquidating alternative investments, while still being able to maintain sufficient cash and cash equivalent levels to manage regular reoccurring expenses.
At the end of the day, whatever your asset portfolio is, it must be diversified to minimize risk and maximize return. Most people think of assets as investments such as stocks or bonds, and do not consider the “alternative path” of owning a small portion of alternative investments. While owning public equities is a great way to grow one’s portfolio over the long term, owning alternative investments and other assets can be an effective strategy to diversify away from public equity market risk. Also, don’t be hesitant to discuss this alternative path of investing with your financial advisor! You never know, maybe they have a giant hockey card collection of their own.