Alternative investments are generally more complex and obscure than traditional modes of investment such as banks, stocks, bonds, mutual funds or physical assets such as real estate. Alternative investments are vehicles not commonly sold to the everyday investor and can include hedge funds, private equity offerings, leaps, straddles and precious metals. In general, alternative investments function at a high level of sophistication and are not reasonable means of income for the general investing public.
In many cases, alternative investments are restricted to professional investors and institutions, and this is true for a number of reasons. Actual legal restrictions apply to some investment types: Some classes of investments require that the investor has a certain net worth, because alternative investments are often too complicated for the nonprofessional investor. The law assumes that wealthier people will have more experience or access to professional resources. Most people who succeed with alternative investments seek the counsel of professional financial managers.
Unpredictability is a relative term. No investment is predictable in an absolute sense, and even the most unconventional investments can be charted, studied and analyzed for patterns and predictions of future performance. The performance of alternative investments is much harder to predict relative to that of traditional investments. Major deviations from the main trend are much more common with alternative investments. Because alternative investments are often complex and involve bundles of interrelated assets, it can be hard to get a good indication of their fundamental value. Volatility is to be expected.
Although barriers to the general investing public are lessening, alternative investment remains the domain of big, institutional investors. One reason for this is the high cost of due diligence. Alternative investments generally require more attention and research than the average investment. The performance of such investments has to be extensively researched and then carefully tracked, risks carefully accounted for and obscure market trends closely watched. Alternative investments often include obscure or niche industries on which little research is available, requiring extensive, fresh due diligence.
It's difficult to get money out of alternative investments because it's hard to find buyers and to remove money from highly diversified assets. The pool of potential investors tends to be more exclusive, and the investments themselves often are so obscure that little, if any information is readily available about them. Information such as market activity, profitability and growth may be difficult to find when individual investors are ready to sell. Rates of return often are highly skewed from one date to the next, making their appraisal difficult. Many alternative investments require advance notice for withdrawals and often impose lock-up periods during which no activity is allowed.
Linda Ray is an award-winning journalist with more than 20 years reporting experience. She's covered business for newspapers and magazines, including the "Greenville News," "Success Magazine" and "American City Business Journals." Ray holds a journalism degree and teaches writing, career development and an FDIC course called "Money Smart."