This article was published in the New Haven Register on August 14, 2020.
Today it’s a simple matter to dedicate a portion of your investment portfolio to asset classesoutside the conventional core trio of stocks, bonds and cash.
Historically, most alternative investments were out of reach for the ordinary investor.Buying into hedge funds or investing in timberland required deep pockets and status as anaccredited investor.
With the advent of exchange-traded funds and alternative-based mutual funds, times havechanged. Today it’s a simple matter to dedicate a portion of your investment portfolio toasset classes outside the conventional core trio of stocks, bonds and cash.
The type of market volatility we have experienced since the start of the coronaviruspandemic in March highlights the need to diversify your portfolio. You can achieve a highdegree of diversity within the three core asset classes, for instance by increasing thepercentage of cash or bonds. Another option is to change the mix within a class, e.g.,transferring some funds from small-cap to large-cap mutual funds.
Alternative investments offer another way to diversify, because these asset classes may riseand fall in opposition to stock and bond markets. In other words, when the stock marketfalls, some so-called “alts” will rise in value, and vice versa. This “low correlation” may helplimit losses and smooth out your investment results over time.
Popular alts include gold, silver, real estate and collectibles (art, wine). Other categories,generally limited to more sophisticated investors, include hedge funds, private equity,venture capital and managed futures. There are also opportunities to invest in energy(natural gas, oil) and agriculture (corn, wheat).
It’s important to remember that alternative investments should make up a relatively smallpercentage of your overall portfolio, perhaps 3 percent to 10 percent, as they can be morecostly than traditional investments and also can be more volatile and carry more risk. Onthe other hand, they may enhance your overall portfolio.
If you are wondering what percentage of your portfolio you should invest in alternativefunds, it depends on your time horizon, net worth and risk tolerance. For example,younger investors might consider a higher percentage than someone closer to retirement,given the higher costs and risks, since they have more time to make up any losses.
A Certified Financial Planner can help you decide whether to invest in alternative assetclasses, which assets to choose and what investment vehicles to use. A financial adviser willlook at these questions in view of your broader financial planning picture and yourretirement planning goals.
Alternative investing is a complex field. For example, there are now more than 130 ETFsthat invest in commodities such as precious metals, energy and agricultural goods.
There are four types of commodity ETFs: Equity ETFs invest in commodity-related stocks;exchange-traded notes (ETNs) track securities indexes; physically backed funds holdcommodities such as gold in storage; and futures-based funds trade in futures, forwardsand swap contracts related to commodities. Some commodity ETFs utilize “laddered”strategies while others pursue “optimized” strategies. It takes a financial planning expertto sort through the bewildering array of alternative investing options available to themodern investor. Please keep in mind that diversification does not ensure protection indown markets. It is not a “silver bullet” despite the many pundits who speak to it.