Alternative Investments

What Are Alternative Investments?

A diverse collection of investments that differ from typical investments such as investments in stocks, bonds, debentures, etc., are referred to as “Alternative Investments”. The phrases “conventional” and “alternative” should not be interpreted to mean that alternative investments are uncommon or that they are relatively new to the world of investing.

Alternative investments also include unconventional ways to invest through special purpose vehicles (SPV) like hedge funds and private equity funds. These kinds of funds enable the investors to get the benefit of leverage, derivatives, the opportunity to invest in structured products, etc.

These SPVs may invest in both conventional assets (such as stocks, bonds, and cash) and nonconventional assets. Alternative investment management is often an active form of investment wherein the investment manager takes an active role. Alternative investments typically have the following attributes:

Specialised expertise among investment managers.
Returns as well as the risk involved typically cannot be compared to traditional investments.
Less transparency and less oversight than in conventional investing.
Historical risk and return statistics are scarce.
Typically taxation is complicated and not as simple as in the case of traditional investment.
Higher costs, frequently including incentive or performance fees.
Specialised portfolios are very often concentrated in a particular field.
Redeeming restrictions (also known as ‘lock-in period’ and ‘freeze period’).

What Are Some Of The Most Common Form Of Alternative Investment?

Below we have explained in brief some of the most popular alternative investments:

P2P Lending

Peer-to-peer lending (P2P Lending) is a type of direct lending where funds are given to people or businesses without the need of a formal financial institution such as a bank to act as an intermediary. P2P lending is often carried out using online marketplaces that connect lenders and potential borrowers.

Most unsecured loans are available through P2P lending majority of the loans disbursed through P2P marketplaces are unsecured personal loans. Secured loans are extremely uncommon in this sector. Peer-to-peer lending is regarded as an alternate form of funding because of a few distinctive features.

Peer-To-Peer Lending: How Does It Work?

P2P lending between individuals is a rather simple process. An internet platform designed for this purpose is used for all transactions. The general P2P lending procedure is outlined below:

A potential borrower fills out an online application on the peer-to-peer lending platform if they are interested in borrowing money.

The platform evaluates the application and establishes the applicant’s risk and credit standing. A suitable interest rate is then determined for the borrower.

The investors explore various borrower profiles on the platform and select one or many borrowers to lend money.

In addition to repaying the principal amount when the loan matures, the borrower is responsible for making periodic (often monthly) interest payments.

Typically both investors and borrowers must pay a fee to the company running the internet platform in exchange for the services it offers.

The benefits and drawbacks of peer-to-peer lending

Both borrowers and lenders can benefit significantly from peer-to-peer lending in the following ways:

Greater returns for investors: Compared to other investment options available, P2P lending typically offers investors, higher returns.

Peer-to-peer lending is a more readily available source of capital for some borrowers than traditional loans from financial institutions.

This could be because of a variety of reasons, such as banks not offering loans to borrowers with poor credit standing.

Peer-to-peer lending does have a few drawbacks, though:

Peer-to-peer loans are subject to significant credit risks. Many applicants for P2P loans have poor credit histories that prevent them from getting a traditional loan from a bank. As a result, a lender needs to be more vigilant about the likelihood of a counterparty defaulting on the loan.

Lack of insurance or government protection: In the event that the borrower defaults, the government does not offer insurance or any other kind of protection to the lenders, which are typically associated with the money kept in the bank.

Hedge Funds

A hedge fund is a type of investment vehicle that gathers money from wealthy individuals and makes a variety of investments. Hedge funds use sophisticated methods for managing risk and building portfolios.

You may have read the word ‘Hedge Fund’ while reading about investments, especially when reading about investments in stocks. Hedge funds are occasionally mistakenly thought of as a sort of mutual fund. However, that is incorrect. Both hedge funds and mutual funds combine investor funds, which they then invest on their behalf in a variety of securities. The similarities end there.

What Are Hedge Funds?

An alternate investment option that invests typically in stock and pools funds of wealthy individuals, families, and institutions is a hedge fund. Hedge funds employ complex and hazardous investment strategies, and they often make very aggressive bets.

Characteristics of hedge funds:

Typically investment in hedge funds is limited to high-net-worth entities. In India, the minimum investment amount in the case of hedge funds (Category III Alternative Investment Funds) is INR 1 Crore.

Relaxed oversight: Typically regulatory regime governing hedge funds is lax when compared to the regulatory regime associated with banking and mutual funds.

Hedge funds invest in stocks, equities, real estate, currencies, derivatives, mortgage products, etc. Long-term as well as short-term investment methods are employed by hedge funds.

Using leverage: hedge funds borrow money to increase returns. But using leverage can be dangerous. It might considerably boost returns or possibly completely ruin a hedge fund.

Less liquidity: It’s harder to sell units of hedge funds when compared with mutual funds units. In the case of mutual funds, you are always free to sell your units using the NAV as a reference. In contrast, hedge funds aim to produce returns over a certain period of time often referred to as the lock-in period, which is typically a few years. Investors are unable to sell their units during this period. Additionally, typically withdrawals are only permitted at specific intervals for investors. These periods could be quarterly or every two years.

Fee structure: Very often the “two and twenty” fee structure is used by hedge firms. This is due to the fact that they take a 20% profit-sharing cut and a 2% asset management fee. The asset management charge may vary between 1 and 4 percent.

Hedge fund managers make risky investments in an effort to increase profits. The risk for the investors is high as a result.

Techniques Used by Hedge Funds

Returns from hedge funds frequently depend more on the manager’s abilities than on the state of the market. Despite changes in the market, hedge fund managers strive to increase returns and decrease market exposure. Here are some tactics they use to accomplish their fund goals:

Hedge fund managers frequently sell stocks on the short side while borrowing funds. They later repurchase these equities when their value declines.

Using arbitrage: Securities occasionally display inconsistent or inefficient pricing. This pricing difference is advantageous to hedge fund managers.

Investing in anticipation of an event: Fund managers take advantage of significant market occurrences such as corporate mergers, acquisitions, and spin-offs. These occurrences may have an impact on the fund managers’ investment choices.

Investing in securities with large discounts: Companies that are insolvent or under severe financial strain may be forced to sell their securities for incredibly low prices. After assessing the benefits and drawbacks of the investment, fund managers may decide to purchase these discounted assets.

Non-Fungible Tokens

Non-Fungible Tokens, also known as NFTs, are digital assets, a kind of digital certificate for ownership of commodities, or an asset that symbolises a wide range of tangible and intangible products, including artworks, virtual properties, postcards, films, and so on. NFTs cannot be duplicated or compared to a similar asset because each non-fungible token asset is distinct in its own right.

Examples of Non-Fungible Tokens

Possessing a digital collectable has advantages over real items like rare coins or stamps. Each NFT is made up of distinct information that sets it apart from other NFTs and makes it simpler to confirm an item’s validity.

For instance, since genuine NFTs can be easily linked to their legitimate users, it renders the circulation of imitations pointless. Additionally, unlike cryptocurrencies, you cannot directly exchange NFTs with anyone for the same reason that all NFTs are non-identical or distinct.

For instance, even if you have two NFCs on the same platform that are the same size, colour, and part of the collection, they still won’t be identical. Let’s look at a few NFT project examples:

Blockchain Heroes is a unique trading card set that emphasises the shared traits of individuals in the blockchain and cryptocurrency industries.

Decentraland: In this game, users’ virtual worlds can be purchased by gamers. The virtual space’s owner can make money from their environment by adding shops, advertisements, etc.

Prospectors.io is a blockchain-based game where participants receive their owned assets in the form of a blockchain and are rewarded with NFT based on their participation.

Cryptocurrency

Any kind of money that exists digitally or virtually and uses cryptography to safeguard transactions is known as cryptocurrency, also referred to as crypto-currency or crypto. Cryptocurrencies use a decentralised mechanism to track transactions and create new units rather than a central body to issue or regulate them.

Cryptocurrency: What Is It?

A digital payment system known as cryptocurrency doesn’t rely on banks to validate transactions. Peer-to-peer technology makes it possible for anybody, anywhere, to send and receive payments. Payments made using cryptocurrencies do not exist as actual physical coins that can be transported and exchanged; rather, they only exist as digital entries to an online database that details individual transactions. A public ledger keeps track of all crypto transactions that involve money transfers. Digital wallets are where cryptocurrency is kept.

Due to the fact that transactions are verified using encryption, cryptocurrency has earned its moniker. This means that the storage, transmission, and recording of bitcoin data to public ledgers all entail sophisticated code. Encryption’s goal is to offer security and protection.

The first cryptocurrency was created in 2009 and is still the most well-known today: Bitcoin. A large portion of cryptocurrency interest is in trading for financial gain, with speculators occasionally sending prices stratospheric.

How Is Cryptocurrency Produced And Distributed

A distributed public ledger known as the blockchain, which is updated and maintained by currency holders, is the foundation of cryptocurrencies.

Through a process known as mining, which employs computer power to solve challenging mathematical problems, units of Bitcoin/other cryptocurrencies are created. Additionally, users have the option of purchasing the currencies from brokers, then storing and spending them in digital wallets.

When you hold cryptocurrencies, you don’t actually own anything physically. What you possess is a key that enables you to transfer a record or a unit of measurement between people without the use of a reliable third party.

Despite the fact that Bitcoin has been available since 2009, the financial applications of cryptocurrencies and blockchain technology are constantly developing, and more are anticipated in the future. The technology could someday be used to trade bonds, equities, and other financial assets.

Examples of cryptocurrencies

Numerous cryptocurrencies are present. Among the most well-known are:

Bitcoin:

The original cryptocurrency and still the most traded, Bitcoin was established in 2009. The person or group whose specific identity is still unknown, usually regarded as a pseudonym Satoshi Nakamoto, is credited with creating the money.

Ethereum:

Ethereum, a blockchain platform created in 2015, has its own digital currency called Ether (ETH), also known as Ethereum. After Bitcoin, it is the most widely used cryptocurrency.

Litecoin:

Despite moving more quickly to develop new ideas, such as speedier payments and processes to allow more transactions, this money is most comparable to bitcoin.

Ripple:

A distributed ledger system called Ripple was created in 2012. Ripple is a tool that can be used to track more than just cryptocurrency transactions. The organisation that created it has collaborated with numerous banks and financial organisations.

Traditional Assets v. Alternative Investments

In the case of alternative investments, there are a number of entry barriers which is faced by middle-class individuals, such as high cost, high risk, inaccessibility, lack of information, complicated taxation, high fee, and long lock-in period.

Alternative investments in India are still in their nascent stage in India and very few individuals and entities are currently investing in alternative assets. However, it is important to note that even traditional assets have provided decent returns to investors historically, such as mutual funds and especially index mutual funds tracking Nifty 50 and Sensex.

In the past 10 years, they have provided returns north of a 13 % Compound Annual Growth Rate. Kuvera is a no-commission investment platform through which you can invest in direct schemes of mutual funds including index mutual funds without paying any commission or brokerage fees.

Did you know? You can now invest in index funds on Kuvera:

Step 1: Download the Kuvera app or visit our website.

Step 2: Create your account on Kuvera by completing the mandatory KYC procedure. This will hardly take a few minutes. Once that’s completed, select the ‘Invest’ option on our homepage after which you can select ‘Mutual Funds’ and ‘index’.

Step 3: Kindly go through the list of all zero-commission direct plans of index mutual fund schemes to start investing.

Alternative Investments

What Are Alternative Investments?

What Are Some Of The Most Common Form Of Alternative Investment?

P2P Lending

Peer-To-Peer Lending: How Does It Work?

The benefits and drawbacks of peer-to-peer lending

Hedge Funds