Literature Review on Alternative Investment Options

Investors are assumed to make rational decisions. All investors are assumed to make their decisions based on the returns and risks associated with an investment. Investing in the stock market has been the most common thing for an investor to do. Stock market involves trading in stocks, mutual funds and bonds. Any other investment that lies outside this is referred to as an Alternative Investment Option.

According to Franklin Allen, ‘stock market based financial institutions have been associated to the nineteenth-century UK, which was the first country to go through Industrial Revolution, and the twentieth-century US, which was the first country to go through post Industrial Revolution’. The stock market played a major role in financing most industries in the UK during the mid nineteenth century.

Wealth creation is largely driven by the stock market capitalization and global Gross Domestic Product (GDP). However, the last economic depression where the value of stocks fell drastically has caused investors to have a rethink about the stock markets. World stock markets, which fuelled the meteoric growth in financial wealth observed in years prior to 2001, registered dramatic decline (Merrill Lynch/Cap Gemini report 2003). A particular event that shocked investors was the collapse of Lehman Brothers. It caused a panic in the investment world, affecting the stock market.

Investors want good returns on their investment with less risk and are now considering Alternative Investment Options. For example, investing in oil, wines, real estate, art, stamps etc. As reported by Greenwood (2008), £5 billion worth of rare stamps are being traded every year. The GB rarities Index is a basket of 30 of the most sought after stamps in the world and has a unique feature of increasing every year for the last 50 years, with an average return of 10%. The worst performing stamp in the index is 108% over the last 10years.

‘Alternative investments continued to infiltrate the retail marketplace of products used by financial planners in 2007, and their use is likely to grow even more in 2008, the Financial Planning Association (FPA) found in its 2008 member survey’ (Becker 2008). Nearly 20 percent of survey respondents reported some level of client assets allocated to alternative investments in 2007, with commodities, real estate partnerships and international/global real estate funds used most frequently. The average alternative asset allocation reported by this group was 7 percent, FPA said.

Out of all the financial planners who used alternative investments in 2007, 95 percent said they intended to either increase or maintain their level of use of these products in 2008. Among respondents who didn’t use them in 2007, 22 percent indicated that they intended to use alternatives for the first time this year. Among all survey respondents, 47 percent said they intended to increase their use of alternative investments.

SOME ALTERNATIVE INVESTMENTS

– INVESTING IN WINE

There is a romantic notion about wine investment, which is that you can buy two cases of young wine so that, after a period of maturation, you can drink one and sell the other to finance the purchase of another two cases (Moneyweek, Aug.29 2007). Investing in wine suggests a certain touch of class. But it does not mean one have to be rich to buy or invest in wine.

In fact, around £3,000 of money would get you three or four cases – 36 bottles – of a quality wine. A suggested portfolio from Magnum Fine Wines is made up of one case each of Château Latour 1998, Château Margaux 1998 and Château Leoville Las Cases 1998, at a total of £2,585. It’s hardly small change, but it means wine investment is within reach of many ordinary investors.

Serious investors spend much more on their cellar, with the average portfolio worth about £25,000. Investors then receive a monthly statement, telling them how much their portfolio is worth. ‘The Liv-ex offers electronic market place for merchants trading in fine wine. They therefore have excellent access to financial information about the wine market and can offer non-professionals various packages of information (Jancis Robinson, www.liv-ex.com, accessed on 16 April 2010).

Another way of getting into wine investing is by using the Uvine exchange, the wine equivalent of the stock market. Uvine is a global exchange for buying and selling wine and anyone is free to register with it. Wine should be viewed as an investment of at least five years.

– INVESTING IN ART

Another alternative investment option is investing in Art. For the last several years, two professors at New York University’s Stern School of Business, Michael Moses and Jiangping Mei, have been compiling data that allows them to track the long-term performance of fine art. The result is the Mei Moses Fine Art Index. ‘According to New York University professors Jiangping Mei and Michael Moses (who created the Mei Moses Fine Art index), art returned 7.7% a year between 1875 and 2000, against a 6.6% return from US equities’ (Moneyweek, 28 Aug. 2009).

The Mei Moses index focuses on mature artists whose works command significant prices at auction. They take the original sales price and then subtract it from the most recent sales price at Christie’s and Sotheby’s in New York and calculate an annual return for a single painting. So, for example, a J.M.W. Turner view of Venice sold at auction at Christie’s in London on May 29, 1897, for $35,000 and then sold at Christie’s in New York last April for $35.8 million—which yields about a 6 percent annual return for 109 years (D. Gross, 21 June 2006).

CHARACTERISTICS OF ALTERNATIVE INVESTMENTS

Alternative investment options are relatively illiquid. It is not an ideal option for an investor that wants returns in short time. For example, you can’t simply push a button to sell an art tomorrow. It could take some time to sell the asset.