Stocks, bonds, exchange-traded funds, and mutual funds are the first things that come to mind when most people think of investing. Looking at the recent numbers, it’s easy to understand why. According to CNBC, investors have put more money into stocks in the last five months than the previous 12 years combined.
However, experienced investors know that diversifying an investment portfolio helps to reduce risk and enhance potential returns. That’s why the interest in alternative investments keeps growing.
In this article, we’ll take a look at some common alternatives to investing in the stock market, and discuss how each alternative investment works.
- Alternative investments are assets other than stocks, bonds, and cash.
- Investors seeking portfolio diversification and increased returns frequently place capital in alternative investments.
- Alternative investment options can range from relatively safe to those volatile.
- Alternatives to the stock market include single-family rental homes, REITs, equity crowdfunding, peer-to-peer lending, gold and silver, private equity and venture capital, business ownership, and cryptocurrency.
What are alternative investments?
An alternative investment is often classified as any asset other than stocks, bonds, or cash.
Although alternative investments have been around for quite some time, some investors may not be familiar with them. Some investors may feel uncomfortable with alternative investments, simply because they are not as commonplace.
However, many alternative investments can have a low correlation to the stock market, and may perform better when the equity market is flat or down. Certain alternative investments also act as an inflation hedge, and may generate returns and protect investment capital through all stages of the economic cycle.
8 alternatives to the stock market
These eight alternative investments to the stock market range from relatively safe to potentially volatile, so be sure to research each option thoroughly before investing.
1. Rental real estate
Single-family rentals (SFRs) is one of the three main headlines to come out of the pandemic, along with work-from-home, and online retailing. According to the Q1 2021 Single-Family Rental Investment Trends Report from Arbor Realty Trust, SFRs may remain a star performer due to a shift in housing preferences and investment.
While occupancy rates of single-family rental homes average above 94%, the annual rent growth of vacant-to-occupied SFR properties jumped to 8.3% in January 2021, the highest level on record. Cap rates of single-family rental homes are currently at 6%, generating a greater return than multifamily properties.
While some experts fear that institutional investors are crowding out homebuyers and small investors, the actual numbers tell a different story. As Gary Beasley, CEO and co-founder of Roofstock recently told CNBC, small mom-and-pop investors are buying about 96% of the 90,000 homes purchased by investors each month.
Over the next few years, the SFR sector may begin to mature. But for now, the sector shows no sign of slowing down as short-term economic factors and long-term demographic trends continue to support demand for single-family rental homes.
2. Real estate investment trust (REIT)
Real estate investment trusts may be an attractive alternative for investors who prefer not to own rental property directly. As the online alternative investments website Yieldstreet explains, REITs allow investors to generate passive income by investing in real estate directly with a low barrier to entry.
There are primarily three types of REITs:
- Publicly traded REITs whose shares can be bought and sold by individual investors on the major stock exchanges.
- Public non-traded REITs that have lower liquidity and are typically not impacted by market fluctuations.
- Private REITs that are only available to accredited investors and are generally not liquid.
According to research conducted by Nareit, publicly-traded REITs have a lower overall correlation to the broader stock market. In fact, over the last few years, residential REITs have had one of the lowest historical correlations with the broad stock market, making the sector potentially a good defensive play in an uncertain economy.
3. Equity crowdfunding
Investors who want to own a small part of someone else’s business may find equity crowdfunding websites to be a good alternative to the stock market. If the company succeeds, the investor owns a part of the company and will be rewarded. However, there’s also the risk of losing all of the capital invested if the company fails.
As Money Crashers reports, equity crowdfunding is one of the most popular nontraditional options for financing and investing in an early-stage business. The top equity crowdfunding sites for investors and entrepreneurs include:
Of course, there are also crowdfunding websites for investing in real estate. Real estate crowdfunding investment platforms such as Fundrise, CrowdStreet, and EquityMultiple accept capital from both non accredited and accredited investors with account minimums starting at just $500.
4. Peer-to-peer lending
Although many investors focus on owning equity such as purchasing real estate or investing in a crowdfund, others invest money on the debt end of the capital stack. Peer-to-peer lending (P2P) platforms provide loans to businesses and individuals.
P2P lending platforms work similar to crowdfunding. After completing due diligence on the prospective borrower, investors pool their capital to make a loan to the borrower. Monthly payments of principal and interest are received, and returns can be higher than other investments due to the amount of risk involved.
According to U.S. News & World Report, four of the best peer-to-peer lending sites for investors this year are:
- Funding Circle
5. Physical gold & silver
Precious metals like gold and silver are historically viewed as a liquid asset, a long-term store of value, and an alternative to fiat currency in periods of high inflation or economic turmoil. Gold in particular generally has a low correlation with the stock market, making gold a potentially good alternative to stocks.
Montreal-based Kitco Metals has been one of the world’s premier retailers of precious metals products. According to the company, the price of gold has increased by nearly 640% since 2000, moving from about $283 per ounce to $1,802 per ounce (as of July 2021).
During the Global Financial Crisis of 2007 – 2009, the price of one ounce of gold grew by about 270%. Over the same two-year period, the S&P 500 declined by about 50%.
6. Private equity & venture capital
Private equity is the most popular alternative asset class among institutional investors, generating average annual returns of approximately 11%.
As Forbes notes, there are nine buyers for every seller of private equity as an asset class. Private equity invests in non-publicly traded companies, with investors’ money often tied up for up to 10 years until the private equity fund sells to another buyer or goes public in an IPO.
Venture capital is a type of private equity that invests in early stage companies, some of which may have the potential to disrupt existing legacy businesses or rapidly expand into a new marketplace. According to CB Insights, some of the best venture capital bets have included WhatsApp, Facebook, Groupon, Cerent, and Snap.
However, potential investors should know that venture capital returns follow the Pareto principle: 80% of the wins come from 20% of the deals.
7. Owning a business
Investing in a business can be a good way to potentially produce steady income and growth over time. While the right business may produce healthy returns, there’s also the risk of failure and a total loss of capital.
Many people choose to invest in a franchise, where initial investments can run more than $5 million. In exchange for a larger investment, owning a franchise can be less risky than starting a new business. As Entrepreneur reports, the top ten franchises for investing in this year are:
- Taco Bell
- The UPS Store
- Popeyes Louisiana Kitchen
- Kumon Math & Reading
- Jersey Mike’s Subs
- Planet Fitness
Cryptocurrencies use blockchain technology to allow buyers and sellers to transact business directly without the need for a middleman. While there are literally hundreds of cryptocurrencies available, the best known is Bitcoin.
Bitcoin has the largest market cap in the crypto space ($749 billion as of July 2021), representing nearly half of the global crypto market cap of $1.55 trillion. Bitcoin is also held as an investment by institutional investors, family offices, and publicly-traded companies like MicroStrategy, Tesla, Galaxy Digital Holdings, and Square.
Although the price of Bitcoin can be volatile over the short-term, the cryptocurrency has performed exceptionally well for some investors who are willing to accept a high level of risk in exchange for potentially stellar returns.
Since 2017 when Bitcoin first began attracting attention from the general investing public, the price of the crypto has increased by more than 17X. On the other hand, Bitcoin has lost over 28% of its value between November and December of 2021. What happens next remains to be seen.