The Truth About Alternative Investments (And Why I Stick With Stocks & Bonds)

In today’s episode, I’m breaking down the world of alternative investments — including rental real estate, crypto, gold, hedge funds, private equity, and liquid alternatives — and explaining why I’m generally not a fan for most investors.

If you spend enough time online, it can start to feel like everyone is getting rich through some “alternative” strategy and that simple stock-and-bond investing is somehow outdated or unsophisticated.

I disagree.

In this episode, I walk through:

• the pros and cons of different alternative investments
• why high expected returns usually come with higher risk
• the hidden downsides many investors underestimate
• liquidity, fees, leverage, concentration risk, and tax complexity
• why “passive income” often isn’t truly passive
• the role of speculation and market timing in investments like gold and crypto
• and why I still believe low-cost, diversified investing is incredibly hard to beat over the long run

I also explain concepts like the efficient frontier, market efficiency, and why so many alternative investments sound more appealing in theory than they often are in practice.

This episode is not about saying every alternative investment is “bad.” There are certainly people who make a lot of money in these areas. But I do think many investors underestimate the risks, overestimate their ability to pick winners, and are heavily influenced by social media, marketing, and survivor bias.

As always, this is educational only and not individualized investment advice.

Transcript

SPEAKER_00 0:30

In today's episode, I'm going to be taking you through various types of alternative investments and giving you my thoughts on them because I'm generally not a fan. My investment philosophy is very vanilla. Invest in a globally diversified portfolio of stocks and bonds, sort of buy and hold, aside from rebalancing. And you know, these different types of alternative investments, which I'm really just categorizing as anything outside of stocks and bonds. So that's going to be rental real estate, private equity funds, hedge funds, gold, cryptocurrencies. I think that a lot of people see stuff online or hear their friends talking about all the money they're making off of these types of investments. And so I think it's really worth digging into each of these one by one deeper so that you can really understand pros and cons of these. And for me, I truly believe that there's not really a good reason to be investing in these types of investments. Now, that being said, I'm not going to deny that there are plenty of people out there making a lot of money off of these types of investments. But I do think that there is a lot more luck to it than skill in terms of ending up in investment that makes you a lot of money. And I think also, you know, we are really, when we're talking to our friends and family and people in our network, no one is going to tell you about all of the bad investment decisions that they made, right? They're always highlighting the winner. So there's a lot of selection bias. And I think you also really have to think about who is pitching these investments to you. So real estate, for example, I see so much on Instagram and other forms of social media about building wealth through investing in real estate. And a lot of those people pitching this are mortgage brokers, realtors, or people wanting to sell you courses on how to make money off of real estate, right? So really digging into all of those different layers there. Again, my investment philosophy, very vanilla, but it works because by investing in stocks and bonds, you can be highly, highly diversified. Even if you don't have a lot of assets to invest yet, we can keep fees very low and markets are very fishent and also very liquid. One thing that I really like to talk about with my clients is understanding this concept of there being an inherent trade-off between risk and return. So if you want a really high return on your investment, you have to be willing to take on more risk. And if you are not willing to take on a lot of risk, then you have to, you have to be willing to accept a lower rate of return. Okay. So if you want a high return, invest in all stocks. If you are not willing to take on the risk of stocks, then you need to accept a lower rate of return of, say, you know, investing in treasuries and money market funds and a high yield savings account. So very low risk, very low return. Because a lot of times I'll have clients asking, and they don't realize that this is what they're asking, but they're basically asking for very high returns, no risk. And I don't blame them. I would love an investment like that, but it just really doesn't exist. Now, that being said, there are plenty of investments out there that do not give you enough return for the amount of risk that you are taking on. So there's this thing called the efficient frontier, which is where you maximize the amount of return that you're getting for the amount of risk that you're willing to take on. And I'm a firm believer that index funds investing in stocks and bonds in a low-cost way is going to get you on the efficient frontier, right? The most bang for the for your buck in terms of risk. But there's this whole area underneath the efficient frontier of investments that have a lot of risk, but aren't giving you the most amount of return compared to those investments on the efficient frontier. And so that's, I think, something that is really easy for novice investors, DIY investors, non-professionals to miss because understanding risk within an investment, especially something very opaque like a hedge fund or a private equity fund, is very hard to miss. All you see is, you know, expected return numbers and not understanding that the amount of risk in there, the downside potential, is actually probably not worth the amount of expected return that you're hoping to get. So let's go ahead and start with hedge funds. Hedge funds are, you know, very similar to mutual funds. They are typically a mix of different types of investments, and they often require very high minimums. They are not offered on the standard market. You typically have to be what's called an accredited investor, meaning you have a certain amount of net worth or income, or if you are an investment professional, you may qualify as an accredited investor. And they are not held to the same standards as publicly traded investments. So they are definitely not regulated to the same amount. There is not the same level of transparency. The bar is far lower than any sort of mutual fund or ETF out there in terms of regulatory requirements and oversight. So want to point that out first. The other thing, too, is like I said, the minimums are typically very high, usually at least six figures. And so for you Henries out there that are still building your wealth, that is going to mean a very concentrated position for you. If you have a million dollars and you want to put 100,000 into a hedge fund, that one single investment is 10% of your portfolio. They are also not as liquid. Most hedge funds typically have quarterly liquidity. You may need to give 60 or 90 days notice before you want to get out of the fund. Unlike, you know, a stock, a bond, a mutual fund, an ETF. It takes one day for you to get your money liquidated. Or one business day rather. And then really the one thing that a lot of people don't realize are just how high the underlying fees can be. So first off, usually financial advisors that are recommending these funds to you are getting a huge commission. Not all. So what's going on with a private equity fund is, you know, the fund managers are choosing companies to invest in, and you usually have what's called a commitment. So, you know, not all of your money that you want to invest in the fund is needed up front, but you may have, say, $200,000 commitment. And over the years there will be what are called capital calls. Hey, we're calling 10%. So you need to pay your $20,000 right now to invest in the fund. And the funds usually take around 10 years or so. They are completely illiquid until the private equity fund has invested all of your money over several years, waited for these companies to really grow, and then they sell them. So if you invest in a private equity fund, there's really no going back. There are a couple private markets where you may be able to sell your share. It is usually costly and difficult. So really you have to understand if you are committing this money, you have to be ready to commit the full amount and there is no turning back. You do not get your money back for, again, could be 10 years, possibly longer. Now, there are certainly funds out there that are called liquid alternatives, which are going to be hedge fund quote type funds in the form of a mutual fund or ETF. And now you have to understand that whether it's a hedge fund or a liquid alternative, the goal might be to really beat market performance. A lot of these are being pitched as, you know, to lower the volatility in your portfolio. And these can be in the form of managed futures fund, perhaps a long short fund. So utilizing leverage and shorting stocks that they that the manager thinks are going to do poorly. So the benefit certainly is that they're going to be far more liquid than your standard hedge fund and far lower minimums, right? You can invest $1,000 or less in most of these liquid alternative funds. You know, I just I'm not a believer that someone can consistently outperform the market. So that's why I'm a big believer in low-cost index funds. And for those funds that purport to just dampen the volatility in your portfolio, create more stability, I think that there's a much better way to do that is just by utilizing money market funds or bond funds to reduce that volatility. And I'll tell you, you're going to be able to do it at a far lower cost because these liquid alternative funds have very high expense ratios compared to bond index funds. So now let's move on to gold. Gold is something I certainly get asked about from time to time, especially when inflation is running high. I don't think gold is the worst thing to invest in if it's going to be a small portion of your portfolio. Now, I certainly would recommend investing in it in the form of an ETF because gold bullion, gold bars, gold coins, that is going to certainly add additional costs for you to store if and when you want to sell it, it has to be weighed and inspected and sold on a private market. So that's going to add to your costs. With a gold ETF, you're certainly going to have a lot more liquidity and lower costs. But here's my thing with gold. If you are using it as an inflation hedge, it's going to perform well when inflation is high, which is great. And when inflation is low, it's not going to perform as well. So the thing is, is if you want to sort of win by investing in gold, you have to be able to hime the market. You have to know when inflation is going to be high to buy and when it's going to be low to get out of it. And the thing is, is markets are efficient. So by the time you read the headlines, hey, inflation is really high, or people are very concerned about inflation getting up there. You are thinking, okay, this is a great time to buy gold. Guess what? Markets are efficient. The price of gold has already shot up. And again, if people are thinking, okay, yeah, inflation's going to be lower. That's wonderful. You're thinking, great, now's the time to get out of gold. Then by the time you go to sell gold, because you've read the headlines, gold has already dropped. So you have to be able to time the market and you have to be able to time it twice because you have to know when to get in and when to get out. Now, if you are concerned about inflation, which is a totally valid concern, especially, you know, during COVID, inflation was very high. Yes, gold does do very well when inflation is high, but really an actually a great inflation hedge is investing in the stock market. Because if you think about it, stock markets are made of the stock market is made up of individual companies. And so if inflation is high, these companies are going to increase their prices to consumers, which is going to increase their revenue and go up roughly in line with inflation. Now it doesn't go up immediately as inflation goes up, right? So if headlines come out, inflation is has been really high this year. McDonald's does not go ahead and immediately increase their price of their McNuggets and burgers. So it doesn't happen immediately, but it is something that over the long term does go up and help you hedge against inflation. Now, the other thing about gold versus investing in stock markets is gold is essentially kind of speculative. I mean, gold does have some inherent value because of the properties of the metal, but that's not really what drives the price of gold. It is speculation that drives the price of gold. Whereas companies that you can buy and sell on public markets, McDonald's again, as an example, McDonald's is taking raw meat and turning it into burgers. Apple is creating technology and building computers, right? So companies are taking raw materials and turning them into products and/or they are providing services and they have a revenue stream. So I think there's a lot much stronger foundation under the value of stocks than with gold. Now, similar sort of story with cryptocurrency. And look, I am not gonna lie to you, certainly no doubt, there are people out there who have made fortunes investing in Bitcoin and all these other types of cryptocurrencies out there. But again, it really depends on your ability to time the market, which for me really comes down to luck. Cryptocurrency has no underlying value. It is worth whatever the market thinks it's worth, which is why we see these big booms and busts with Bitcoin and all these other types of cryptocurrency. Is it flashy, exciting, sexy to be investing in cryptocurrency? No doubt. Of course it is. It's way more exciting to say, hey, I'm invested in Dogecoin or whatever the hot one is now than to say, oh yeah, I'm invested in a passive index fund in the market. And you know what? Again, I'll tell clients if you want to invest in gold, if you want to invest in cryptocurrency, take a small portion of your money and go and have fun with it and see it as gambling, as speculation. And hopefully you'll make money, but I don't believe in gold or crypto as a long-term strategy. That is my personal belief, and that's how I feel about those things. And then finally, I wanted to talk about rental real estate. Gosh, I feel like this is such a big one. This is probably the type of investment that I get asked about the most by clients, friends, and families. And when I go on Instagram, I see so many people talking about how you can make so much money in rental real estate. And I think the first thing I just want to point out is that so many people talking about how great it is to invest in rental real estate are people that are going to financially benefit in some way by promoting rental real estate. So realtors, mortgage brokers, people that are selling courses on how to make money in rental real estate. And again, certainly, yes, there are people out there who are making a lot of money in rental real estate. There are also people that are not gonna tell you, but they are not making money on their rental real estate, losing money. I know people that have tried to do the whole rental real estate thing and got out of it because it was not a smart decision. So let's break it down a little bit further. So I think the allure of rental real estate is you can buy an asset that is in theory going to continue to go up in value. And you get this income stream from rental income. That is, quote, passive income. And on top of it, you get all of these amazing tax deductions. Let's look at it a little bit closer. So to buy a home or condo or apartment, to buy this piece of rental property, it's going to be very likely in the six figures, if not higher. So very concentrated portfolio position, if you are a Henry and not a multi-millionaire, all going into one single property. Then this idea of renting it out, passive income. You own a piece of property and you have a renter, you are now a landlord with expenses. And, you know, if the washing machine is broken, you have to repair it or hire someone to repair it. And yes, you can hire a management company to manage the property for you, but that also increases your costs, lowering your expected return. So this quote, passive income stream is only passive if you spend more money lowering your ROI, or it's not very passive because you have to deal with maintenance and maybe potentially evicting a renter who doesn't pay and damages and all of the things. And then, you know, this whole idea of getting all these tax deductions because the property depreciates all of that. What you're really doing is just tax deferral, because if you depreciate the property, that lowers your. Cost basis. And so even when you sell the property, you have to pay higher realized gains. Now, one of the potential benefits of rental property is yes, you can take advantage of leverage, right? So get a mortgage on the property. Leverage can increase your return on the investment, but it also adds a lot of risk because not all properties go up in value. And here's a story that I like to tell people because it's it's completely true. Years ago, I had a colleague who owned a vacation home on a lake here in Michigan. And she didn't use it as a rental property. It was just this, you know, modest vacation home that she's had in her family for decades and likes to, you know, enjoy with her family. And at the time that we were working together, it was discovered that the lake that their house is on is polluted with kifas, highly polluted, not safe for swimming. Now, can you imagine what that did to her property value? I mean, she was, of course, very upset about it, but it wasn't financially that big of a loss for her. And I don't know if she ended up keeping the property or not. She did say that her family would enjoy going out on the boat in the lake, not really swimming in it, but she was starting to have grandkids that would probably want to swim in the water. And here's the thing, too, is people that like to invest in rental property. They like to, quote, diversify their real estate portfolio by buying multiple properties. And so people like to buy properties all in the same area. And so maybe buying multiple houses on the same lake. And then, you know, you find out that that lake is highly polluted. Now I know this sounds like a crazy scenario and probably doesn't happen all that often, but I I just want to make you question this theory that real estate everywhere is always only going to go up in value and that you're always going to be able to rent it out. And if the renters dry up for whatever reason, you think, okay, well, I can at least sell this asset. Yes, but you may not be able to sell it at the price that you want to sell it at. So I mean, my my big things here are that it's this idea of having a passive income that to me is not very passive, and having this huge concentrated position. You know, I hear a lot of people saying I want to quote diversify out of the stock market. I'm buying this very large, concentrated position just, you know, does not resonate with me as an advisor. And I think it's very alluring because, you know, people have varying levels of understanding of this stock market, but you know, ultimately, even for a financial advisor, I get it's this kind of abstract thing that I feel I have no control over because I don't have any control over the stock market. And when you look at real estate, it is something that you can see and feel and touch and have a greater sense of control over. But but but no one can truly control the real estate market. I, me and my husband, we do not invest in rental real estate or any of the types of alternative investments that I've talked about. And as people with an all-equity portfolio, our investment returns have been, on average, probably about 10% a year, which continues to compound and grow with me doing very, very little, right? I'm not maintaining a piece of property, I'm not starting a side business to earn this money. It just continues to grow and compound with very little cost and very little effort. So everyone's entitled to their own opinions. This is my two cents, and I hope you enjoyed this episode.