Alternative investment funds: Meaning, types, benefits

Alternative Investment Funds, or AIFs, are a singular investment option popular among seasoned investors who have a higher risk appetite and want to earn high returns. If you’re an investor looking to drive your profits and your risk tolerance is reasonably high, AIFs might be a good investment option for you.

This post discusses everything you should know about alternative investment funds to help determine whether or not they deserve a position in your portfolio. 

What are alternative investment funds?

Alternative Investment Funds are a type of investment vehicle that allocates funds to assets outside of the conventional categories of stocks, bonds, and cash. These funds invest in hedge funds, real estate, private equity, etc. 

Generally, High-Net-worth individuals (HNIs), institutions, and similar entities invest in AIFs because the investment amount is considerably higher than usual investment amounts. 

Key features of alternative investment funds

Now that you know what are alternative funds, let’s explore their key features.

• Reduced liquidity: AIFs can be challenging to buy and sell quickly due to low liquidity.
• Higher risk: AIFs have a higher risk than traditional investment avenues as they are designed for individuals seeking higher returns.
• Singular fee structures: AIFs usually charge a high fee with a minimum investment requirement. However, they have lower transaction costs.
• Complex valuation: AIFs invest in alternative assets, which can be challenging to assess and value due to their unique nature and less standardized reporting. 
• Diversified assets: AIFs invest in a wide range of assets, including private equity, commodities, infrastructure, and social venture funds.
• Regulatory framework: AIFs are subject to a regulatory framework developed by the Securities and Exchange Board of India (SEBI), and their structures may differ with local regulations and jurisdiction.

Category of AIF

The three categories of alternative investment funds are: 

1. Category I

These AIFs invest in start-ups, social ventures, infrastructure, SMEs, and other economically or socially beneficial sectors. This AIF category offers certain government-backed incentives.

2. Category II AIFs

These AIFs invest in private equity funds and debt funds that don’t come under Category I or III. Typically, they invest in a diverse range of instruments without borrowing unless for day-to-day operations.

3. Category III AIFs

These AIFs employ complex trading strategies, such as hedging, to derive short-term returns. Examples include hedge funds and Private Investment in Public Equity (PIPE).

Benefits of investing in AIFs

The top benefits of investing in AIFs are:

• AIFs provide access to unique investment assets, including private equity, hedge funds, and real estate.
• They enable you to diversify your portfolio by lowering dependence on traditional asset classes.
• With exposure to high-growth and niche opportunities, there is a potential for higher returns.
• AIFs are professionally managed by a team of experienced fund managers with specialized strategies.
• They are often less correlated with stock market movements, offering stability during volatility.
• AIFs are suitable for long-term investors seeking to generate wealth beyond traditional investment vehicles.
• These tools can include customized investment strategies to align with investor goals.
• AIFs are structured to cater to HNIs and institutional investors.
• Regulated by SEBI, they ensure transparency and investor protection. 

Who can invest in an AIF?

Here’s an analysis of how different investor categories should deal with AIFs:

• High-Net-Worth Individuals (HNIs): With substantial capital and a high-risk appetite, these investors can invest in AIFs. 
• Institutional investors: AIFs are a good investment option for banks, insurance companies, and pension funds as they offer diversification.  
• Not for retail investors: AIFs have high risk, costs, and lock-in period restrictions. Thus, they are not ideal for general investors.  
• Seasoned investors: If you know the financial markets well, especially alternative investment assets, you can profit from investing in AIFs.
• SEBI-regulated investors: Only accredited investors who fulfil SEBI’s net worth criteria are eligible to invest in AIFs.

Conclusion

Alternative investment funds are a great option for those seeking to diversify their investments. Due to their high risk and lock-in period restrictions, they are best suited for seasoned investors. Remember to understand what are alternative funds, conduct due diligence, and evaluate the specific risks associated with AIFs before making financial decisions. 

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