Methodology

Investing Basics

Module 1

What is unsystematic risk?

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Alternative Investments

Alternative Investments

Cash, bonds and stocks are more traditional investment types in finance. These are quite different to alternative investments, which are less common in finance, despite being well known by the general public. Alternative investments include assets like art, wine, precious metals (i.e. gold) and cryptocurrencies (i.e. Bitcoin).  Such investments are not necessarily suitable for everyone as they often require some specific expertise to understand their value.

 

Unless you have experience or expertise within a field that is associated with a particular alternative investment, it may mean that you buy and sell items at prices that are either too low or too high.

With that said, alternative investments excite people as it is possible to make huge returns on certain items. For instance, it is feasible for an individual to come across a very valuable painting in their local market, buy it for $5, only to sell it for $250,000 later on.

Although this may be possible, it is very unlikely.

Alternative investments as store of value investments

Individuals don’t usually receive income from alternative investments. Instead, investors hope that the value of the item will stay in line with inflation or increase over time. Alternative investments that can do that are often referred to as ‘store of value’ investments. The most famous store of value investment is gold, as it is widely considered to be a good investment when levels of inflation are high. In fact, it is common for advisor to recommend that their clients invest in gold when the economy is starting to go wrong.

 

When buying gold, investors believe that they will be able to achieve returns that will maintain or grow the value of their money, especially when the economy is struggling. Then, when the economy improves, such investors may decide to sell their gold and use the money to invest in other investments (i.e. stocks).

 

Although it is highly debated, cryptocurrencies are considered to be store of value investments too. It is important to bear in mind though that cryptocurrencies do not have the track record that gold does.

Alternative investments & risk

Alternative investments are not typically recommended to individuals as they are historically more unstable. As a result, it is quite difficult to predict their value over time. These types of investments can often be worth millions one year and nothing the next.

 

Alternative investments tend to not be regulated as well, which adds another element of risk. This means that investors are not protected from the liquidation of their provider or from market manipulation, like they would be with stocks, bonds or cash. With there typically being no regulation involved with alternative investments, they are considered to be very high risk. So, they may not be suitable for ordinary investors that just want to build wealth to buy a house or live more comfortably during their retirement.

 

This is especially worrying when it comes to cryptocurrencies, which are widely held by private individuals. Most are totally unaware that they are unprotected if anything goes wrong. For example, Mt. Gox was one of the largest bitcoin exchanges in 2014, handling around 70% of global transactions. However, it abruptly ceased operations, with millions of bitcoins going missing in the process. Due to the lack of regulation on cryptocurrencies, Mt. Gox was not required to protect the bitcoin owned by their customers.

 

So, investing your life savings into alternative investments is not necessarily advisable.

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What is an example of an alternative investment?

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