Alternative investments for individual investors are financial assets that do not fall into conventional asset classes and often tend to attract younger investors. Firstly, what are alternative investments? They are labelled as such because these financial assets do not fall into the more conventional asset classes of equity, bonds, properties, or cash investments. Alternate investments can be further divided into subcategories such as commodities, private equity, collectibles, and cryptocurrencies. Typically, alternate investments do not form the core of your investment portfolio but instead form less than 10% of your overall portfolio.
No matter what you call alternative investments, this asset class has been grabbing headlines. At the forefront is cryptocurrency with bitcoin having skyrocketed to new highs above US$40,000 (RM160,000). Another increasingly popular alternative investment is gold which has gained some new followers with fintech now allowing you to buy fractional gold via an app. Lastly, we have P2P financing which allows investors to legally lend money to small businesses and entrepreneurs via an online P2P platform.
Why Do Alternative Investments Appeal to Young Investors?
Alternative investments are generally viewed as high risk and highly volatile. These investments are also more often embraced by younger (and young at heart) investors who are comfortable with technology, while older (or more risk averse) investors may shun away from investing online or via an app into an investment that talks about blockchain or fractional investing. Older investors may also have a preference towards more traditional investments such as stocks and property.
Younger investors tend to find investing in alternative investments, especially those powered by fintech, as more transparent and are often attracted by the lower fees. Alternative investments also provide higher potential returns while allowing investors to diversify and own assets that aren’t correlated to the stock market. As it’s more volatile, alternative investments also provide an avenue for trading which allows investors who like trading to scratch an itch!
How Do Alternative Investments Perform?
Along with the higher risk and volatility, alternative investments also enjoy potentially higher returns. For example, bitcoin’s price rise in 2020 was over 300%, towering above most if not all other asset classes, while the YTD rise for gold is around 23%. For P2P financing, returns can range from 10% to 18% according to data provided by P2P financing operators in Malaysia.
While alternative investments appear to be doing well, it’s a double-edged sword as investments could potentially go downwards significantly as well. For example, the Great Crypto Crash of 2018 saw the price of bitcoin drop 80% from its peak which is an even bigger magnitude of loss than the dot-com crash.
Gold is also often falsely perceived as a low risk asset and a safe investment during times of crisis. In fact, gold is highly volatile with an average volatility moving upwards (or downwards) of 16% a year! P2P financing investors on the other hand face risks in the face of rising default rates whereby borrowers are unable to pay and the losses affect investor returns.
What You Need to Know about Investing in Alternative Investments
This comes with its fair share of risks and know-how. For example, a common question when investing in alternative investments is whether you will be taxed in Malaysia. Cryptocurrency is not taxed if you are not trading crypto as your primary source of income.
However, for P2P financing, investors are required to declare gains and will be taxed. For gold investing if you are a Muslim, you will need to pay zakat, a mandatory form of Islamic obligation tax, if you hold gold above 85 grams. This applies even if you cannot see or touch the gold physically as halal gold must be backed up by actual physical gold to be Syariah compliant.
Let us narrow down good rules of thumb for investing in these alternate investments. Bitcoin is a highly speculative investment with massive gains and drops thus you may want to hold no more than 5% of your investment portfolio in cryptocurrency. It’s also important to note that cryptocurrency is not viewed as legal tender in Malaysia but there are three digital asset exchanges (cryptocurrency exchanges) recognised by the Securities Commission.
P2P financing also faces the risk of defaults, so you may want to ensure you spread your risk across different borrowers (or even different P2P financing platforms). Do read up on the borrower’s financial information before investing in any P2P financing notes. Gold has its fair share of criticism as well as it does not generate any returns but is a good hedge against times of crisis. Do be aware of the gold spread, which is the difference between the buying and selling price of gold, and any fees charged which will reduce your returns.
What Lies Ahead for Alternative Investments
Cryptocurrency especially is an interesting alternative asset to watch. It’s increasingly being viewed as a store of value, thus earning the nickname of digital gold. Digital payment platforms PayPal and Venmo announced that they will support transactions in bitcoin and other cryptocurrencies driving an increase in usage and liquidity. There is also a growing number of institutional investors in bitcoin as a reserve asset and an alternative to fiat currency such as the US dollar which is showing a decline in value.
Overall, alternative investments are becoming increasingly popular with financial technology and slick, shiny apps appealing to young and young at heart investors. Increased competition, lowered costs with fintech, and an increasingly global investment market will further spur growth in these risky but promising investments.
About the author
Stephen Yong (MBA, CFP cert ™) is a licensed financial planner and can be contacted at firstname.lastname@example.org.