What are alternative investments and how can individual investors access them?

Alternative investments are non-traditional assets—real estate, private equity, hedge funds, commodities, private credit, infrastructure, and collectibles—that sit outside public stocks and bonds. They often offer diversification benefits because their returns may be driven by different economic factors than equities and fixed income. However, they commonly involve higher fees, limited liquidity, complex tax treatments, and in some cases regulatory access limits for individual investors.

In my 15+ years advising clients, I’ve seen alternatives behave as both stabilizers and amplifier risks depending on selection, timing, and structure. Properly used, they can reduce portfolio volatility or improve long-term returns; used poorly, they can lock capital into underperforming strategies and produce outsized losses.

Sources and regulatory context:

• SEC guidance on private funds and investor protections (U.S. Securities and Exchange Commission, sec.gov).
• IRS rules that affect tax treatment and exchanges (Internal Revenue Service, irs.gov).
• Consumer-facing guidance about investing risks (Consumer Financial Protection Bureau, consumerfinance.gov).

Related reading: see our primer on Alternative Assets 101: Where They Fit in a Personal Portfolio and practical tax mechanics for real estate exchanges in How to Use 1031 Exchanges in Personal Real Estate Strategies.

Why individual investors consider alternatives

• Diversification: Alternatives can be less correlated with public markets and—when chosen carefully—reduce portfolio drawdowns.
• Return enhancement: Some private-market strategies target premium returns that aren’t available in passive public-market index funds.
• Income and inflation protection: Real assets (real estate, infrastructure, commodities) often provide cash flow and a hedge against inflation.

But these potential benefits come with trade-offs: higher complexity, greater due-diligence needs, governance and operational risks, and often multi-year or indefinite lockups of capital.

Common types of alternative investments (summary)

• Real estate: Direct property, REITs, private real estate funds, and crowdfunding platforms.
• Private equity & venture capital: Investments in private companies or funds that acquire, grow, and sell business interests.
• Hedge funds & private credit: Strategies using leverage, derivatives, shorting, or lending to nonbank borrowers.
• Commodities: Physical or derivative exposure to oil, metals, agriculture.
• Collectibles & art: Tangible items that rely on niche markets and expertise.
• Infrastructure: Long-lived assets like toll roads and utilities with stable cash flows.

Each category varies widely in liquidity, minimum investment size, fees, and regulatory oversight.

How individual investors can access alternatives

1. Public vehicle wrappers (best for most individuals)

• Listed REITs and commodity ETFs provide exposure with daily liquidity and much lower minimums.
• Closed-end funds and business development companies (BDCs) are other public structures.
• Pros: accessibility, transparency, and brokerage account delivery.
• Cons: may not capture the premium of private markets; some vehicles use leverage and can be volatile.

1. Registered funds and interval funds

• Interval funds and regulated mutual funds specialize in less-liquid alternatives while still providing periodic liquidity.
• Suitable for investors willing to accept occasional redemptions rather than permanent lockups.

1. Private funds and direct investments (limited access)

• Private equity, many hedge funds, and certain private real estate funds typically require accredited investor status and high minimums.
• Accredited investor rules are set by the SEC: generally net worth of $1M excluding primary residence or income of $200k (individual) or $300k (joint) in the last two years, with some expanded categories for certain professional certifications (SEC, sec.gov).
• These investments offer potential higher returns but come with opaque reporting, longer lock-ups, and higher fees.

1. Crowdfunding & online platforms

• Real estate crowdfunding and some private-company platforms now accept much lower minimums (often $500–$5,000).
• Platforms vary widely in underwriting quality and fees—due diligence is essential.

1. Fund-of-funds and secondary markets

• Fund-of-funds can give smaller investors diversified private-market exposure, but they add another layer of fees.
• Secondary markets (for some private fund stakes) offer liquidity but are typically available to institutional and accredited players and may trade at discounts.

Key risks to consider

• Liquidity risk: Many alternatives are illiquid or have periodic redemption windows. Confirm lockup periods and exit conditions before committing capital.
• Concentration & valuation risk: Private assets are harder to value and can obscure mark-to-market losses until exit.
• Fee drag: Management and performance fees in private funds (often “2 and 20” or similar) materially reduce net investor returns.
• Operational and manager risk: Private strategies depend heavily on manager skill, alignment of interest, and operational controls.
• Regulatory & legal risk: Investments in private placements carry fewer investor protections than registered securities (SEC guidance).
• Tax complexity: Alternative investments can trigger complicated tax events (depreciation recapture for real estate, UBTI for tax-exempt accounts, and capital gain timing). Consult the IRS resources and a tax professional (irs.gov).

Example from practice: I had a client commit to a private real estate fund with a five-year hold and a projected 8–10% IRR. When the sponsor delayed exits during a market downturn, the investor’s capital was illiquid for an additional 18 months and required extra capital calls on a follow-on project. Properly stress-testing liquidity needs could have prevented the mismatch.

Due-diligence checklist (practical steps)

• Confirm access requirements and securities registration status; request the private placement memorandum (PPM) and subscription documents.
• Check manager track record, references, and side-by-side performance versus relevant benchmarks.
• Understand fees: management, carried interest, acquisition fees, and potential fund-level expenses.
• Review liquidity terms, gating, and redemption frequency (if applicable).
• Ask for detailed pro forma assumptions, sensitivity analyses, and alignment of interest (e.g., manager co-investment).
• Evaluate tax consequences and whether the vehicle generates unrelated business taxable income (UBTI) for retirement accounts.
• Look for independent third-party audits and verify custody arrangements for assets.
• Spot red flags: vague reporting, consistent use of leverage without disclosure, vague valuation policies.

Tax considerations to watch

• Real estate: depreciation (and depreciation recapture on sale), 1031 exchanges for like-kind real property (post-TCJA, 1031 exchanges are generally limited to real property; see IRS guidance and our practical guide on 1031 exchanges).
• Private equity/venture: capital gains timing occurs at exit; fund structures may generate unrelated business taxable income for tax-exempt investors.
• Alternative wrappers: ETFs, REITs, and mutual funds have different tax reporting requirements and can be more tax-efficient for taxable investors.

Always run tax scenarios with a qualified CPA—IRS rules and notice requirements can materially affect realized returns (IRS, irs.gov).

Practical allocation guidelines and risk management

• Allocation sizing: Many advisors recommend a modest allocation to alternatives (often 5–20% of total portfolio) depending on investor objectives, time horizon, and liquidity needs. The exact percentage should be tailored to your plan.
• Time horizon match: Only commit illiquid capital you can afford to have out for the expected holding period plus a margin for delays.
• Use liquid alternatives for tactical exposure: If you need flexibility, consider listed REITs, commodity ETFs, or registered interval funds.
• Diversify within alternatives: Spread exposure across strategies (real assets, private credit, venture) to reduce single-strategy risk.

In my practice, I rarely recommend more than 10–15% to illiquid private-market allocations for most individual investors unless they have extensive experience, a long time horizon, and emergency liquidity outside of the alternative holdings.

Fees and performance expectations

• Expect higher explicit and implicit fees in private strategies. Management fees (1–2%), incentive/ carried interest (often 10–30% of profits), and deal-level fees can materially reduce net returns.
• Historical “average returns” for private investments vary by vintage year and strategy; avoid relying on headline IRRs without understanding the underlying cash flows and fees.

Common mistakes and misconceptions

• Treating private returns like public index returns: Private fund IRRs use inside timing and are not directly comparable to public-market returns without careful benchmarking.
• Ignoring liquidity needs: Investors can be forced to sell liquid assets at depressed prices to meet living expenses while private holdings remain locked up.
• Skipping manager due diligence: The manager drives results. Weak governance or poor alignment can wipe out expected premiums.

Quick FAQs (practical answers)

• Do I need to be an accredited investor? Many private funds require accreditation; the SEC generally defines an accredited investor as someone with a net worth of $1M (excluding primary residence) or income over $200k ($300k joint) for the last two years (SEC, sec.gov). Some newer rules broaden access via professional certifications or FINRA registrations.
• Can I access alternatives with small amounts? Yes — public REITs, ETFs, interval funds, and crowdfunding platforms offer lower minimums, but underwriting quality varies.
• Are alternatives always high risk? Not always — some alternatives (core real estate, infrastructure) can be relatively conservative, but all alternatives have unique risk profiles that require careful review.

Closing guidance and next steps

1. Define why you want alternatives: diversification, income, inflation hedge, or return enhancement. Your objective determines which structures make sense.
2. Start with liquid wrappers (REITs, ETFs) to learn the economic drivers before committing to illiquid funds.
3. Perform manager-level due diligence and obtain independent tax advice.
4. Keep allocations modest and consistent with your overall financial plan.

Professional disclaimer: This article is educational and not individualized financial, tax, or legal advice. Consult a licensed financial advisor and a CPA before making investment or tax decisions. Authoritative sources include the SEC (sec.gov), the IRS (irs.gov), and the Consumer Financial Protection Bureau (consumerfinance.gov).

Further reading and related FinHelp articles:

• Alternative Assets 101: Where They Fit in a Personal Portfolio (https://finhelp.io/glossary/alternative-assets-101-where-they-fit-in-a-personal-portfolio/)
• How to Use 1031 Exchanges in Personal Real Estate Strategies (https://finhelp.io/glossary/how-to-use-1031-exchanges-in-personal-real-estate-strategies/)