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Assets that are not traditional stocks, bonds, or cash, such as private equity or real estate.

What are alternative investments?

Alternative investments are options for investing capital that extend beyond traditional investment instruments (stocks, bonds, ETFs, and mutual funds). While traditional investment assets are typically placed on public stock markets, alternative investments include assets that can potentially yield profits but are not directly linked to the stock market: real estate, paintings, wine, vintage cars, collectible vintage jewelry and watches, LEGO figures, stamps. These items were once seen solely as luxury goods and status symbols. However, considering that their appraised value tends to increase over time, they have come to rank alongside traditional investment tools. The core of alternative investments, like traditional options, is also to gain additional income through the growth in market value of the investment object. Therefore, they can be effectively used by investors to diversify their portfolios widely.

In a 1986 article, William Baumol used the repeat-sale method and compared the prices of 500 paintings sold over 410 years, concluding that the average real annual return on art investments was 0.55%.

Unlike stock instruments, alternative investment objects have their own special features, from valuation methods to specific risks.

Types of Alternative Investments:
Investors typically turn to alternative investment options for the following reasons:

– Searching for options to diversify investment portfolios more broadly.
– Personal interest in art, stamps, coins, wine watches, or gemstones.
– The desire to combine “the pleasant with the useful” by investing in things they like and want to own.
– Loss of trust and declining confidence in traditional types of investments during crises.

Features of Alternative Investments:
The main features of alternative investments, which lead to potential risks, include:

– Lack of any prediction methodology for price changes.
– Absence of adequately regulated trading platforms.
– High price threshold.

The first characteristic of such investments is the lack of any predictive methodology for price changes. Due to the wide variety of alternative investment types and the emergence of new ones in the modern world, developing a system for selecting the “entry point,” analyzing cost prospects, or creating a scheme for income generation in this area is quite challenging. Numerous factors influence the value of investment objects, and many of these factors come down to individuals’ strong desire to own these items due to personal preferences or memories, along with the means to purchase them. Two factors that could be considered somewhat systematic in this area are:

– The level of anxiety regarding standard investments, as the stock and real estate markets adjust.
– Inflation, which leads to a steady increase in the prices of nearly all items that can be stored for a long time and do not go out of fashion.

These factors might be sufficient for investors to consider alternative investment options as protective or growth opportunity investments. However, they are insufficient for predicting price behavior on such items to profit in the short term.

Advantages and Disadvantages of Alternative Investments:
The main advantage for a specific investor could be the combination the fulfillment of owning an exclusive item with the prospect of substantial upside. In traditional asset classes, such as stocks and bonds, there is no such situation where one’s investment is regularly taken out of storage for admiration or shown with pride. This is more of an emotional characteristic, not reflecting the ability alternative investments to outperform conventional asset classes.

In practical terms, the second advantage could be the relative independence of alternative investment prices from the state of individual countries’ economies and the global economy in general. Prices of such items rise year after year and are almost impervious to economic upheavals.

Another advantage is the tangible nature of such investments, meaning they have a real physical form. The investor purchases a specific item with its own intrinsic value. In contrast, with stock market investments, there arise property rights that are intangible and only exist as an electronic record in a trading terminal or in a depository. Therefore, people with a conservative mindset often distrust stock market investments. Stocks, bonds, or other market instruments are not tangible objects that one can “touch” or store securely. For such investors, alternative forms of investing may be perceived as having more merit.

The disadvantages include:

– Low liquidity of such assets. The number of investors placing funds in exclusive items is significantly lower than those buying and selling public securities or real estate. Finding a buyer for a specific asset can take a long time and be challenging due to the unique characteristics of each item requiring a nearly individualized approach.
– Difficulty in determining price at a specific moment in time. The price formation is greatly influenced by the presence of a specific buyer with sufficient means and desire for purchase. Furthermore, fashion at any given time, or the availability of alternatives—such as the price drop of diamonds following the introduction of brilliant artificial counterparts like moissanite—can impact prices.
– Difficulty in authenticity verification and a high risk of forgery. Objects that can be sold for high profits have always attracted fraudsters, among whom virtuosos certainly exist.
– Long investment period. Most alternative investment objects are acquired considering special commissions, spreads, associated costs of appraisal, transportation and storage, and insurance.
– The need for high-level expertise on investment subjects. To acquire a truly valuable item with good potential for valuation growth, an investor must deeply understand the subject, nuances, and details, or seek assistance from specialist consultants.

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