Understanding Alternative Investments: Financial Advisors in Gilbert Weigh-In

A typical investment portfolio includes stocks, bonds and cash, but sometimes, especially with high net worth individuals, you need something more.

As your wealth grows, the team at Watts Gwilliam and Company believes that your portfolio should include more advanced investment solutions. But these can be tricky to navigate, especially on your own.

What are alternative investments, and when are they appropriate?

As financial advisors in Gilbert, AZ who specialize in investment management for high net worth individuals and helping investors nationwide who have more complex financial lives, we get asked about alternative investments often. With that in mind, we wanted to provide a quick breakdown.

What are Alternative Investments?

Within a portfolio, certain investments provide specific elements.

Stocks bring growth potential, but can carry high risk.

Bonds and cash are low-risk investments often held to provide stability to investor portfolios against stock market volatility. While “safe,” their yields don’t always keep pace with inflation.

Alternative investments are different and varied, but share one quality: They tend to move independently to stocks and bonds. Because of this, prudently chosen alternative investments can help cushion a portfolio and therefore, help protect your wealth, smoothing out the returns of your investments overall.

Types of products we use to help clients diversify their portfolios include:

• Private equity
• Private real estate
• Alternative lending
• Options and derivatives

Each can help aid a portfolio in a number of ways.

Can your portfolio benefit from alternative investments? Contact the team at Watts Gwilliam and Company and start the conversation.

Private Equity

Private equity investments are those made in companies not publicly traded. Private equity investments often have income or net worth requirements in order to invest.

Private equity investments offer a chance to invest in smaller or newer companies that haven’t yet entered the public stock market. They could offer innovative products or serve small niche markets in which they are the only player. The upside for both is the chance for substantial growth in the companies, and thus substantial returns for your portfolio.

The potential downside is the same as that for publicly traded stocks: Company value can fluctuate. Smaller, newer companies also carry more risk that older, established companies.

There are private equity investments that focus on start-up, high-flying companies and others that focus on established companies with proven long-term earnings growth. Both strategies can make sense depending on your goals and risk tolerance.

Talk to a financial advisor who is experienced in private equity options to see if it makes sense for you.

Private Real Estate 

Real estate investing offers a chance to diversify from stocks, bonds and cash. The day-to-day value of your real estate tends to have very little correlation to stock and bond prices.

In addition, private real estate investments can be structured to offer both cashflow (from rents or other income streams) and price appreciation. Depending on your needs, the investment can focus on income, appreciation or a combination of both.

Private real estate can include commercial real estate (office buildings, malls, hospitals), rental homes, construction, fix and flip and more. You can invest locally or diversify your geography. The real estate can be purchased directly or owned through a private real estate fund.

Real estate can also offer tax advantages, which may benefit your portfolio overall. Again, discuss your options with a financial advisor to see what makes sense for you.

Alternative Lending 

Alternative lending can take many forms. In summary, there are many individuals and institutions looking to borrow money from non-traditional sources (banks). These loans are typically collateralized by one or more assets and are usually short term. The collateral acts as a parachute in the event that the borrower is not able to satisfy the terms of the loan.

Examples of alternative lending include private real estate loans (hard money loans) and peer-to-peer lending. Like private real estate, alternative lending can be attained via direct loans or a mutual fund.

Alternative lending can provide a stable yield and income stream that can smooth and protect your portfolio returns if the market drops. The downside is the risk of late payments or even default on the part of the borrowers.

Options and Derivatives

Options are a contract to buy or sell an agreed-upon product at some point in the future. Options can be purchased for stocks or other assets. Stock options can be used to hedge a position you already hold, or used as a hedge against stock market moves in the future.

Briefly, stock options come in two forms. A call anticipates that the price will rise from current levels within a specific time period, and a put anticipates that the price will drop from current levels within a specific time period.

Investors can choose from a variety of option strategies, ranging from aggressive and speculative to conservative and income focused. If you have a portfolio of appreciated stocks, an option strategy might make sense to increase investment income and hedge against downside risk. The Watts Gwilliam Optics strategy is a time-proven option strategy that works great for individuals with large, single stock positions. Read our recent blog post: How to Turn Concentrated Stock Holdings into Income Generators.

Stock options are one type of derivative. Other derivatives are based on financial assets, such as currencies, stock averages or mortgages.

A derivative is a contract based on the features and movements of the asset. Their values rise or fall based on the value of the asset.

Consider Risk and Reward

While investing in alternatives can help diversify your portfolio and provide potential reward, both in appreciation and yield, it’s important to realize the risks as well. Alternative investments can be very complicated and costly if done without professional help.

As a stand-alone investment, many of these alternatives can be quite risky. However, if done properly, they can often increase returns and reduce the risk of a portfolio. This is because of the diversification benefits they offer.

It’s important to have a firm sense of your investment goals when it comes to alternative investments, just as it is with any investment. Is your primary goal appreciation? Cashflow and yield? Hedging and protecting your existing portfolio or a specific section of it?

Be sure that you understand any investment decision you make. For more on what alternative investing looks like, schedule a no-obligation conversation with the Watts Gwilliam team. Our financial advisors in Gilbert, AZ are prepared to help, regardless of where you live.