The world’s wealthiest investors have long recognized that diversifying into alternative assets—that’s any investment that falls outside of traditional asset classes—may reduce overall portfolio volatility and enhance potential return. That’s because alternative assets, which can include non-publicly traded private assets such as private equity, often perform differently than traditional assets in a given market cycle.
Want an example? In 2022, a year when the S&P 500 declined by more than 20%, private equity was down just 4%; that same year, the Barclays Aggregate Bond Index lost 1% while the Cliffwater Direct Lending Index, an index comprised of private debt issuers, advanced by 6.30%. That’s one reason many investors may utilize alternatives in their portfolios. The data firm Preqin reports that alternative assets under management will grow from $13.7 trillion in 2021 to $23.3 trillion in 2027.
Risks of Investing in Alternative Assets
Investing in alternative assets doesn’t come without risk. Among other things, their complexity and decreased liquidity require due diligence by the investor, which is why they’re generally only available to “accredited investors” under the U.S. federal securities laws. Given the complexity and decreased liquidity in alternative investments, investing in them without experienced assistance should be done with caution, given the possibility of increased risk to the investor. That said, notwithstanding these risks, investors may find that they can benefit from the diversification and noncorrelated return potential of the alternative asset class while also benefiting from the tax advantages of IRAs. Let’s take a look at investing in alternatives in an IRA, and the role of a qualified custodian.
Self-directed IRAs (SDIRAs) can offer investors flexibility and diversification with an array of asset types through the administration of a qualified custodian. Investors in IRAs with professional management may also have alternative investments in them, depending on the strategy chosen, but in most standard and Roth IRAs, the selection is typically a limited menu of publicly traded investments.
With the ability to custody alternative assets, investors must closely evaluate the risks and benefits of these investments.
SDIRAs offer these benefits to investors
Flexibility: Investors can allocate their retirement funds to assets not often permitted in an IRA with traditional brokerage firms, including non-publicly traded private assets such as private equity, real estate, and hedge funds.
Diversification and tax-deferred growth: Experienced investors look to alternatives to enhance the potential returns in their IRAs, and take advantage of the tax benefits afforded by their retirement account.
Invest in What You Know
Whether your expertise is in technology, artificial intelligence, real estate, or biotech, a qualified custodian, can assist investors in taking advantage of opportunities that arise from their own professional expertise, network, and industry connections.
Investor Due Diligence with Alternative Assets
Investors often employ an alternative investment strategy to enhance their potential return within their retirement accounts. Prior to investing, it is crucial for an investor to conduct thorough due diligence of the alternative investment, and consult with their own tax and/or legal advisor for further guidance.
The Role of an IRA Custodian
If investors choose to forego a standard IRA under professional management for a SDIRA, they must first identify a custodian that can facilitate opening an IRA account. Like with a standard IRA, the custodian can aid investors with opening a SDIRA that can hold alternative assets.