What Are Alternative Investments?

Alternative investments are high-risk investment vehicles that offer an alternative to traditional investments, like stocks and bonds. Like all risky investments, alternative investing products carry the risk of higher returns than a blue-chip stock or a conservative index fund. The keyword is “chance.”

Alternative investment opportunities carry the risk of significant losses because they are not tied to the stock market, which leads many investors to view them as a good source of diversification. However, it is questionable if diversification is worth the risk. Recently, the securities market has seen a rise in alternative investments aimed at ordinary investors, rather than wealthy investors who could afford to risk a small portion of their portfolio for larger returns

“[Alternative investments] are often too pricey from a risk-reward standpoint,” 

Michael Fine, Professor of Wealth Management at the American College of Financial Services, The Wall Street Journal

Alternative Investments and FINRA Rule 2111

Unfortunately, many unethical brokers or investment advisors have solicited clients to invest in alternative investments by highlighting the possible returns, without underlining the likelihood of losses. According to FINRA Rule 2111, brokers are required to recommend investments that fit an investor’s financial goals and risk tolerance.

For example, investors who want to rely on their securities portfolio for retirement income should select conservative investments. If a broker recommended an unsuitable investment, investors may be able to recover their losses by holding the brokerage firm accountable and pursuing FINRA arbitration.

If you are not an accredited investor–typically an investor with a net worth of over $1 million–then alternative investments probably will not suit your investing needs.

Risks Associated with Alternative Investing

There are a number of risks to consider before investing in alternative investments, including:

• Difficult to Sell: Because they do not register with the SEC, investors cannot sell alternative investments on the stock exchange.
• Higher Fees: These investments are more complex, which means they require more active management. As a result, they carry higher fees than ordinary investments.
• Lack of Regulation/Information: Alternative products are not required to register with the SEC, so they do not disclose financial and operational information. This information is crucial to assess an investment’s potential performance.
• Higher Minimum Investments: Because these investments are higher risk, they are meant for wealthier investors. Typical minimums range from $10,000 to $50,000.
• Illiquid: Investors are expected to hold their money in alternative investments for a long period. If an investor wants to withdraw their money before the maturity date, they may incur a high fee.
• Complex Strategies: Investors should ask questions about how their alternative investment works and how success will be measured.

Types of Alternative Investment Funds

Hedge funds may invest in alternative investments, but such investments are available only to exceptionally affluent investors. Alternative investments may also be part of an exchange-traded fund (ETF), a mutual fund, or a private equity fund.

Here are a few common types of alternative investments:

• Private Equity investments give investors a stake in privately owned companies. These types of investments often provide venture capital to start-ups.
• Private Credit, or Private Debt, alternative investments allow investors to lend money to private companies. If the borrower defaults, a senior lender may be entitled to recover assets, such as real estate.
• Commodities are tangible goods for sale, like fine wine or works of art. Unless you are an expert in these types of investments, it is difficult to know if they will appreciate over time. These alternative investments may involve futures contracts, which are agreements to buy or sell a commodity at a specified price on a future date. Alternative commodities focus on natural resources such as oil.
• Non-Traded REITs are a common example of real estate alternatives. These are investment companies that invest in income-producing real estate, like hotels or office space.

What are Alternative Investment Examples?

These examples of non-traditional investment options illustrate their risks and how costly they can be to investors:

• Tiger Global lost $17 billion after pouring billions into tech startups as part of its private equity alternative investing strategy. Tech stock prices crashed in 2020, triggering staggering losses.
• New York City REIT is a non-traded REIT that suffered significant losses following the pandemic, stemming from its concentrated exposure to office real estate.
• GWG L Bonds are a type of bond that uses investor capital to purchase life insurance policies. When these life insurance bonds underperformed, the company allegedly relied on new investments to pay prior investors. Because of this structure, some securities attorneys allege it functioned as a Ponzi scheme.
• Business Development Companies (BDCs) provide financing to struggling small- to medium-sized companies. They may use borrowed money to fund these loans, making them especially risky. Non-traded BDCs lend to companies in distress, increasing the risk of default.

What Should I Do If I Lost Money With Alternative Investing?

If a broker recommends an alternative investment opportunity without explaining the risks, you may be able to recover your hard-earned-money through FINRA arbitration. Speak to a securities lawyer if you believe your alternative investment did not fit your conservative investing goals.

Contact our experienced legal team at info@kurtalawfirm.com or (877) 600-0098.