The Short Answer

Alternative investments are assets outside traditional publicly traded stocks, bonds, and cash. They include private equity, private credit, real estate, infrastructure, hedge funds, and commodities. Used thoughtfully, alternatives may provide diversification, access to different return sources, or income. They also tend to involve less liquidity, higher fees, greater complexity, and less transparency than traditional investments. Whether they belong in a portfolio, and in what amount, depends on your goals, time horizon, liquidity needs, and ability to evaluate them.

What Are the Main Types of Alternative Investments?

  • Private equity: Ownership stakes in private companies, typically held for several years, with returns realized through sales or public offerings.
  • Private credit: Loans made directly to companies outside traditional bank or public bond markets, often providing income.
  • Real estate: Direct property ownership or private real estate funds, which can provide income and potential inflation sensitivity.
  • Infrastructure: Investments in assets such as utilities, transportation, and energy facilities, often with long-term contracted cash flows.
  • Hedge funds: Pooled funds using a range of strategies, such as long-short equity or global macro, that seek returns with different risk characteristics than traditional markets.
  • Commodities: Physical goods such as energy, metals, and agricultural products, often accessed through funds or futures.

Why Do Investors Consider Alternatives?

Diversification

Some alternatives have historically shown different return patterns than public markets, which may help reduce overall portfolio volatility. Note that the apparent stability of some private investments partly reflects infrequent valuation rather than lower underlying risk.

Access to Different Opportunities

Many companies remain private for longer than they once did, and private markets offer exposure to businesses and lending opportunities not available in public markets.

Income and Inflation Sensitivity

Private credit, real estate, and infrastructure may provide income streams, and some real assets may respond to inflation.

What Are the Tradeoffs?

Liquidity

Many private investments lock up capital for years and may make capital calls over time. Investors need sufficient liquidity elsewhere to meet commitments and spending needs. Our resource on how much cash a family should hold discusses planning for capital calls.

Fees

Alternatives often charge higher management fees and performance-based fees than traditional funds. Returns should be evaluated net of all costs.

Complexity and Transparency

Structures can be complex, reporting may be less frequent, and tax reporting can involve Schedule K-1s that arrive late in tax season.

Dispersion of Results

The difference between strong and weak managers is typically much wider in private markets than in public markets, which makes manager selection and due diligence especially important.

Eligibility

Many private offerings are limited to accredited investors or qualified purchasers.

How Should Alternatives Fit Into a Portfolio?

Alternatives are generally best considered as a complement to a diversified core of public investments rather than a replacement. A thoughtful approach starts with clear objectives: is the goal diversification, income, growth, or inflation sensitivity? Then it determines an appropriate allocation size based on liquidity needs and time horizon, conducts thorough due diligence on managers and structures, and diversifies across vintage years and strategies.

Institutions such as endowments and foundations have long used alternatives within a governance framework supported by an investment policy statement. Individuals can apply similar discipline. Newport’s article on whether you are taking too much or too little risk offers related perspective on matching investments to your goals.

The Takeaway

Alternative investments can play a meaningful role for some investors, but they are not suitable for everyone. Understanding their benefits alongside their costs, illiquidity, and complexity helps you decide whether they belong in your portfolio. Newport’s private wealth and foundations and endowments teams can help evaluate alternatives within a disciplined framework.

This article is provided for educational purposes only and is not individualized investment, tax, or legal advice. Please consult qualified professionals about your specific circumstances and review our disclosures.