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Liquid vs. Illiquid Alternative Investments: A Must-Know for Investors

Many investors of alternative assets have lost big over the last few weeks. Just because an investment falls under “alternative” doesn’t mean it’s not volatile. It’s imperative for investors to know the difference between illiquid investments and liquid investments, especially when it comes to alternatives.

Bitcoin dropped below $30,000, from its high of $68,000 in November. NFTs are plummeting, with Bored Ape Yacht Club dropping 32% at the beginning of this month. And VC is getting crushed

Source: Zach Coelius on Twitter

This has me scratching my head… 

The purpose of alts is being missed here: to provide returns uncorrelated to the stock market.

2 red flags to look for in alternative investments  

If you’re looking to invest in more illiquid alternatives that are as un-correlated to the stock market as possible, make sure to watch out for these two red flags.

Red flag #1: Watch out for active trading and assets that get priced daily.

You’re better off trading in more liquid (public) markets, if you’re going to go the trading route.

Alternatives such as crypto and NFTs are easily tradable and re-valued daily. There are a few problems with both of these things.

Which brings me to my second point.

Red flag #2: While we all want liquidity, liquidity provides an opportunity to exit positions in emotional periods (such as now).  

When an asset is liquid, it’s easy to let your fear or emotions get the best of you when there’s a downturn.  

Here’s an example in my own portfolio from earlier this month:

Source: Zak Boca on Twitter

Key differences between liquid and illiquid investments

Liquid investments are those that can be easily sold or exchanged for cash. Illiquid investments are the opposite, and cannot be easily sold or exchanged for cash.

Liquid investments, such as traditional stock market investments can also be sold for cash within seconds. 

Source: Unsplash

Illiquid investments, such as real estate, can’t be sold the second the market takes a downturn. 

Liquid investments are also naturally easier to come by, with a plethora of online investing and trading platforms to choose from.

But, with the rise of 506 (c) offerings and financial advisors more frequently accessing institutional alts (real estate, private credit, infrastructure, etc.), more opportunities have opened for investors to gain access to institutional private markets.

So where does crypto stand? 

With crypto re-valued daily and easily tradable, it’s not a truly illiquid investment. And unfortunately, as we’re seeing, it doesn’t look like crypto is as uncorrelated to the stock market as we once thought it was. 

Investor trading Bitcoin cryptocurrency
Source: Unsplash

Now that’s not to say to not invest in crypto or other more liquid investments. But it’s to understand that liquid alternative investments may have greater ties to the stock market than other alternatives.

Final takeaways 

Focus on investments where short-term emotions don’t impact the asset value if you’re looking for less volatility. @CrowdStreet is a great place to start. 

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