For decades, High Net Worth Individuals (HNIs) have preferred traditional physical investing instruments such as gold and real estate and a few digital assets like direct stocks, fixed deposits (FDs), and bonds.

 

The global financial landscape has transformed in recent years, and so have the HNI investment strategies. Innovative investment solutions took the place of traditional investment options, and these new investment avenues take into account the investor’s risk-reward profile and help them to preserve and grow their wealth.

 

These innovative investment options, entirely different from traditional investment solutions, are known as alternative investments. Some examples of alternative investments include hedge funds, private equity, art and antiques, derivatives contracts, and commodities.

 

HNIs are actively investing in a few emerging investment avenues, which are expected to remain the key investment themes in 2022. Some of the major ones include Alternative Investment Funds (AIFs), Market Linked Debentures (MLDs), Real Estate Investment Trusts (REITs), Infrastructure Investment Trusts (InvITs), Pre-IPOs, and offshore investments.

 

Alternative Investment Funds (AIFs):

 

AIFs are better investment avenues for HNIs as their performance is not correlated with traditional assets, allowing portfolio diversification and generating higher returns. AIFs requiring a larger capital corpus are typically handled by highly skilled fund managers who understand their clients’ investment goals very well.

 

There are three types of AIFs in India. Category One invests in early-stage initiatives, start-ups, social ventures, and infrastructure. At the same time, Category Three involves trading derivatives, long-short strategies, leveraged positions, and investing in unlisted or listed stocks. AIFs that fit into neither of these categories are labeled as Category Two AIFs. These privately held investments require a minimum capital of ₹1 crore.

 

Market Linked Debentures (MLD):

 

MLDs are financial instruments issued by Non-Banking Financial Companies (NBFCs) linked to a specific market index such as NIFTY, commodity index, and government yield bonds.

 

The current market conditions bring greater volatility to domestic equities. Since MLDs are passive investment vehicles, the investor gets indirect exposure to those investment avenues by eliminating their volatility. They also offer returns of specified equity or debt indices and instruments they are linked with. They also provide capital protection in some instances.

 

Credit rating agencies are assigned the task of rating listed MLDs. In addition, they come with lower taxes and lower volatility when compared to other debt instruments. All these features make them a good fit for HNI portfolios.

 

The only risk associated with these investments is the possibility of default in principal repayment of the underlying debt instrument.

 

REITs and INvITs:

 

Higher token prices and illiquidity have traditionally hampered real estate and infrastructure investments. Today, these investment avenues have changed, and investors can participate with little money on liquid real estate and infrastructure assets. Thanks to new investment avenues like Real Estate Investment Trust (REIT) and Infrastructure Investment Trust (InvIT). The Securities and Exchange Board of India (SEBI) has recently cut the minimum investment amount to encourage widespread participation.

 

The benefits of these new investment avenues are twofold: first, they allow investors to diversify their portfolios across liquid real estate and infrastructure assets along with regular cash flows. Second, these investment products enable organizations to monetize their real estate and infrastructure assets to many investors, achieving a win-win situation for both.

 

Pre-IPO:

 

The year 2021 witnessed swarms of Initial Public Offerings (IPOs) entering the market and many successful listings multiplied investors’ wealth. Likewise, pre-IPO stocks, also known as unlisted shares, have recently aroused the interest of both retail and HNI investors. Unlisted shares, which are not traded on any recognized stock exchange, are frequently traded in the Over-the-Counter (OTC) market.

 

Unlisted shares give access to innovative companies more focused on technology and out-of-the-box business concepts. An investor can also purchase the stocks as per the size of his or her pocket. However, this may not be possible once the company announces its IPO, as there are chances for lower allocations and oversubscriptions.

 

Global Macro:

 

Global macro strategies invest across international asset classes and markets. Global macro analysts take value investing and directional positions based primarily on broader macroeconomic analysis. They also employ computer models to evaluate and predict market movements while portfolio managers make investment decisions through discretionary strategies.

 

International Investments:

 

Indian HNIs have been attracted to international investments as they can diversify geographically through the Liberalised Remittance Scheme (LRS) route as a hedge against Indian rupee depreciation.

 

International investments are not directly linked with Indian markets and give an investment opportunity in various lesser volatile investment avenues. Investors can access international investments through feeder funds which invest in global investment products, or through other instruments like stocks, bonds, or structured products, which facilitate direct international investments.

 

Some HNIs pick up international investments to immigrate and establish a financial base in another country.

 

A Word of Caution

 

Every aspect of alternative investments is not rosy. These investments involve a high degree of risk and, at times, face illiquidity owing to restrictions on transfer and lack of a secondary market. In addition, there are chances of losing every penny or a substantial investment as these investment vehicles are highly leveraged, speculative, and volatile. Other major disadvantages of alternate investments include a lack of transparency, complex tax structures, lesser regulation, and higher fees. They also come with insufficient diversification, and if there is any diversification, it does not compensate for losses.

 

Conclusion

 

HNIs are concerned about conserving their wealth and optimizing their portfolio more than ever before. However, tax implications on the international investment avenues vary from investor to investor. So, it is always better to consult a tax advisor in the alternate investment space.

 

Although every investment avenue is dynamic, the underlying principle remains: an ideal portfolio has investments in different asset classes. It ensures lower volatility and meets investment objectives yet cash flow requirements.

 

Alternative investments never fit every investor. Given the unique risk-return profile and complex investment characteristics of alternative investments, they are more suitable for sophisticated HNIs. These sophisticated HNIs should also consider their investment time horizon, objectives, and risk appetite to withstand market volatility before allocating their hard-earned money to alternative investments.

 

Justin Raj

 

Alpha Research Team