Alternative Investment Strategies In A Disrupted Market- Navigating Turbulence

Market disruption or turbulence is inevitable in the dynamic and evolving financial market. Unsteady economic conditions, geopolitical tensions, and unforeseen and exogenous world events can all contribute to sudden highs and lows in the conventional investment market.

Fixed-income traditional investments have their merits during turbulence. But savvy investors looking for non-market linked, growth potential options are turning to less volatile alternative investments. Different types of alternative investments present diverse opportunities to diversify an investment portfolio and hedge the risks of traditional investments.

Read the article to learn how alternative investment can be your silver lining to navigate a turbulent market while preserving your savings and growing wealth.

Disrupted Markets: Definition 

Market disruption is when markets fail to function correctly. It is typically due to rapid market declines or a crash. The turbulence in the economy creates widespread panic and disorderly market conditions. Some examples of disrupted markets are:

1. Harshad Mehta Scam: On 29 April 1992, Sensex dropped 570 points or 12.77%, following an INR 5000-crore scam by Harshad Mehta. 
2. Dot-Com Bubble: The Sensex fell over 50% between 2000 and 2002 following the US dot-com bubble. During the late 1990s, rapid technological advancements raised valuations of internet-related companies and led to a market bubble. However, when the bubble burst, it resulted in significant disruptions, causing financial losses and reshaping investor confidence.
3. Mumbai Attack: On 28 November 2008, two days after the 26/11 terrorist attack on the financial capital of India, the Sensex dropped by 396 points or 4.5%. The effect was cushioned since the market was closed on 27 November.
4. Demonetisation: On 9 March 2016, following the announcement of a ban on INR 500 and 1000 notes, Sensex plummeted 1,688 points or 6.12%, while Nifty crashed by more than 540 points or 6.33%. 
5. The COVID-19 Pandemic: On 23 March 2020, following the announcement of nationwide lockdown, the Sensex shed off over 13% or 3,935 points, and the Nifty fell by 13% or 1,135 points in a single day.  This resulted in a loss of INR 13.88 trillion for the investors.

Challenges Traditional Investments Face In Turbulent Times

Conventional investment options like stock markets can be volatile and adversely impact your portfolio. The uncertain market can affect the returns and restrict access to funds when needed. Investing in traditional asset classes during such times can involve the following drawbacks:

1. Increased Volatility: Turbulent periods often bring sharp and unpredictable price swings in the financial markets. It can even lead to wiping out of your majority of invested capital.
2. Safety Over Growth: Heightened uncertainty and widespread panic during market disruptions often lead to investors' "flight to safety" behaviour. Investors liquidate their positions, lean toward safer assets, or prefer sitting over cash. This, in turn, reduces their diversification effectiveness. 
3. Interest Rate Sensitivity: Market turbulence accompanies interest rate fluctuations by the government to stabilise the economy. This may result in financial planning discord and significant interest losses in a rising rate environment.
4. Liquidity Concerns: Uncertain market conditions can decrease liquidity. Reduced liquidity makes it daunting to purchase or sell assets at desired prices. It can lead to larger bid-ask spreads.

The Need For Alternative Investments

The limitations and challenges in traditional investments propel investors to seek diversification and favourable options to navigate a market disruption. As the name suggests, alternative investments include asset classes that do not come under traditional investments. These asset classes are largely unaffected by volatility in the traditional markets of equity and debt investments. Given their attractive features, they can help you course through disruptive market conditions:

1. Long-Term Perspective: Many alternative investment strategies involve a longer lock-in period. The long-term approach may be better attuned to the underlying assets and reduce the impact of short-term market fluctuations.
2. Diversification: Unlike stocks, alternative investments correlate less with the broad market. Including alternative asset classes in your portfolio can minimise the overall risk exposure to volatile assets.
3. Potential For Higher Returns: Although alternative investments accompany varying risk levels, some strategies, like securitised debt instruments (SDIs), p2p lending, and startup equity, offer the potential for higher returns.
4. Private Market Access: Disrupted markets can significantly decrease the availability of traditional public market investments and unlock the door to private markets.
5. Inflation Hedge: Turbulent economic conditions may lead to short-term inflation. Certain tangible and income-generating alternative investment can act as a hedge against inflation.

Types Of Alternative Investment Plans

There are different types of alternative investments to choose from, depending on your risk appetite and investment goals. Each of these asset classes have different pros and cons, and can be effective tools to diversify in turbulent conditions.

1. Real Estate: Real estate, especially commercial real estate, is a popular alternative to the traditional asset classes of stocks and bonds. Real estate offers both regular income in the form of rental yield, and capital appreciation in the long run.
2. Farmland: Like commercial real estate, agricultural land investments or farmland investments offer both rental income and capital appreciation. Additionally, much of the income from farmland investments are tax-free.
3. Peer-to-Peer Lending: Peer-to-peer lending or P2P lending platforms connect lenders with borrowers directly without the involvement of a middleman. P2P lending entails lending money to individuals or businesses for a specified period with a predetermined repayment structure. Usually P2P lending offers high interest income for the lenders, though it can be a risky affair.

Besides the above, venture capital and private equity, arts and collectibles, and commodities such as gold, silver, etc. are different alternative investment solutions available to an investor.

Advantages And Disadvantages Of Alternative Investments

The following are the major advantages of alternative investments:

• Alternative investments usually have lower correlation to traditional markets and asset classes like stocks and bonds. As a result, they are less volatile and offer an effective strategy to diversify one’s investment portfolio and minimise the risks.
• Alternative investments often offer higher returns than traditional asset classes. However, at the same time, they may also carry higher degree of risk.
• Different types of alternative investments carry different pros and cons and hence present a variety of options to choose from depending on risk appetite and investment goals. For instance, while cryptocurrency as an alternative may offer high returns with high risks, real estate is usually considered a stable investment.

Like every other investment, alternative asset classes also have different types of risks associated with them. The following are some of the major disadvantages of the alternative investment industry:

• Alternative asset classes are often inaccessible and unaffordable for the average investor. These asset classes are largely restricted to high-net-worth individuals and financial institutions. For instance, investments such as arts and collectables may not be accessible to a retail investor. However, with technology-driven alternative investment platforms, more and more alternatives are now available for low minimum investments.
• Alternative asset classes such as real estate may carry high maintenance costs and expenses. Besides, investment platforms may charge high management and performance fee.
• Due to their nature, alternative asset classes are often illiquid. As a result, it can be difficult to exit an investment on a short notice or in case of an emergency.

Evaluating And Selecting Alternative Investments During The Turbulence

Alternative investments require due diligence and a thorough insight into their unique risks and opportunities before investing. Analysing and choosing the ideal option can help you make informed decisions.

1. Due Diligence: Research extensively on each investment opportunity to analyse their past performance, creditworthiness, fees, and underlying assets.
2. Risk Assessment: As with all asset classes, alternative investments are also subject to risks. Therefore, identify the risks associated with alternative investment options before investing. Evaluate how each investment aligns with your risk tolerance and objectives.
3. Diversification And Liquidity: Diversify your portfolio across alternative asset classes and strategies to reduce overall risk. Illiquid assets are more challenging to sell and lead to additional risks. Hence, consider the liquidity before investing.
4. Historical Performance And Correlations: Examine how your chosen investment has performed historically to learn the potential downside and limit losses. In addition, analyse how the specific investment correlates with other assets in your portfolio. Platforms like Grip Invest can give you an upper hand in analysing alternative investment opportunities. It collates SEBI-regulated investment options and highlights their risks, commercial terms, and performance to help with decision-making.

Risk Management And Exit Strategies For Alternative Investments

The growing interest in alternative investments is leading to a need for advanced analyses in the risk exposure context. Alternative investments have distinct risk-return profiles compared to conventional asset classes.

Proper knowledge about available exit methods is essential to mitigate risk, maximise returns, and plan for liquidity. The standard exit strategies include:

• Pre-determined Holding Period
  Some alternative investments come with predefined holding periods, while some allow early withdrawals. Ensure you understand the holding period and any exit penalties.
  For example, if you invest in a private equity fund with a five-year holding period, exiting earlier might incur penalties. Hence, you must grasp the timeframe to avoid unforeseen consequences and costs.
• Secondary Markets
  Sometimes, you may sell your investment interests in secondary markets or exchanges before the holding period ends. However, limited liquidity and prices can be unfavourable.
  Suppose you invest in shares of a private company or startup. Exploring a secondary market exit before the expected period ends is an option. You can sell your shares to a willing buyer before the tenure concludes.
• Negotiated Exits
  Investments like private equity or real estate allow you to sell your interest to another investor or negotiate an early exit with the manager.
  If you are eyeing an early exit, consider negotiating the sale of your property interest with another investor or the property manager.
• Partial Exit
  Multiple alternative investments generate income or distribute profits regularly during the term. These can offer partial liquidity.
  For instance, as an investor in a renewable energy project, you receive periodic profits throughout the investment term. It offers you partial liquidity before the project concludes.

Regulation Of Alternative Investments

In India, the regulatory framework surrounding alternative investments is still evolving with regulators such as the Reserve Bank of India (RBI) and the Securities and Exchange Board of India (SEBI) proposing new regulations every now and then. Alternative Investment Funds or AIFs are regulated by SEBI under the Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012. Besides, asset classes such as peer-to-peer lending is regulated by the RBI under its Master Directions and Circulars. Investments in real estate come under the purview of different regulators depending on the form of investment. For instance, REITs or Real Estate Investment Trusts are regulated by SEBI, while commercial real estate projects have to comply with the Real Estate (Regulation and Development) Act (RERA).

The regulatory landscape for alternative investment is still evolving and it is better to keep an eye on latest developments in this regard before you invest in alternative assets.

The Bottom Line

Generating stable and good returns is the primary reason driving many investors. However, market-associated risk is an imminent part of the investment journey. Consequently, you must adopt robust strategies and explore alternative investments which help you diversify and easily navigate disrupted markets and related turbulence. 
Grip Invest is an online investment discovery platform that offers curated alternative investment options to help you beat disruptions and volatility. You can browse well-researched instruments through a seamless interface. Explore Grip Invest to learn more about beating market turbulence through alternative investments.

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