When the Dow Jones fell more than 50% between the end of 2007 and March 2009, investors lost more than trillions of dollars—they lost their faith in the stock market. More than 10 years later, that trust still hasn’t been rekindled. According to Gallup, only 37% of those 35 and under are choosing to invest in the stock market, compared to 52% in 2006-07*.
This distrust, combined with ongoing stock market volatility, has forced private investors to look for more palatable investment opportunities. And thanks to low savings account rates, rising household incomes and expanded investment regulations across the country, alternative investments—and, more specifically, private placements—are becoming an increasingly popular and lucrative option.
Once reserved solely for venture capitalists and hedge funds, private placements give you an opportunity to purchase stocks, bonds or securities privately—rather than as part of a public offering. Private placements are designed to support small and medium-sized enterprises (SMEs) by making it easier for them to acquire funding from the capital markets, while at the same time preserving necessary investor protections. This ground-floor approach allows you to acquire shares at a significant discount and secure a greater return once the company in question decides to go public.
A changing investor landscape
While not everyone is eligible to participate in these types of investments, thanks to a new Offering Memorandum (OM) Exemption introduced in Ontario in 2016—and similar regulations across Canada and the US—the pool of investors now qualified to participate is greatly expanding.
While accredited investors (who have net assets of $1 million) could always participate, the door has now opened for less sophisticated, upper-middle-class investors—typically referred to as eligible investors. The caveat in Canada is that, unlike accredited investors, eligible investors must pass an eligibility test—including a minimum income requirement (i.e., an annual income of $75,000 per individual or $125,000 per couple)—and cannot purchase securities in excess of $30,000 in a 12-month period. Similar rules have also been adopted in the US, further expanding the pool of eligible investors and investment products designed for them.
Risks vs rewards
Like all investments, alternative investments and private placements come with their fair share of risk—the most obvious being that, unlike publicly-traded stocks, there is no prospectus. Instead, investors are given a private placement memorandum or offering document that contains much of the same information, but not to the same degree. This means investors are expected to do their own due diligence, which requires a certain level of expertise—a level many less sophisticated investors simply do not possess.
To overcome this barrier, many eligible and non-eligible investors are taking advantage of swiftly-emerging alternative investment funds. These funds, which are similar to mutual funds except their securities are not traded on an exchange, hire a fund manager to conduct any necessary due diligence on investors’ behalf. These funds are built on deeply-rooted industry relationships and networks, which allow them to invest in deals that brokers and banks typically don’t have access to.
This set-up spreads any associated risks across a range of investments—so, while some companies in your portfolio may not end up being the next Facebook, another could very well bring in a 300% return, which would, in turn, balance everything out.
Don’t go it alone
If you’re thinking about exploring the world of alternative investments, your first step should be to find an alternative investment provider. While, in the past, these types of providers were exempt market dealers, that’s no longer the case. Today, a growing number of private companies are issuing their securities directly—either through crowdfunding endeavours or to alternative investment funds—and many traditional institutions don’t provide access to those deals.
You’ll also want to make sure you are adequately diversified and focusing on nascent or emerging industries with as-yet unrealized potential—like cannabis—or disruptive companies that stand to change the face of their industries. These types of deals will understandably be difficult to vet, which is why an alternative investment fund can help enhance your rate of return tremendously.