Before You Invest, Get an Overview of Different Asset Classes
Written on Saturday, October 27, 2018
By Mitali Sharma
You invest with the expectation that eventually your money will grow. But are your expectations in confirmation with the return characteristics of your investments? To set your expectations right having a good understanding of the different asset classes that collectively create your financial portfolio is very important. In this blog, you will understand the concept of asset classes, the risk they reflect and their return characteristics.
What are the Asset Classes?
Investments that exhibit similar characteristics such as returns, risks, and performance under particular market conditions are characterized as one particular asset class. Broadly, there are five major types of asset classes: a) Equities, b) Fixed Income Securities, c) Cash & Equivalent, d) Real Estate and e) Gold. While investing, asset allocation is very important, so that your money gets proportionality invested and you are not under-investing or over-investing in any of the asset class as it may put your money into risk.
Understanding Different Asset Classes
1) Company Stocks or Equities: Investing in equities is considered to be one of the best ways to achieve your long-term financial goals. Equity investments let you earn a share of the profits of a company in whose stocks or equities you have chosen to invest.
2)Fixed Income Securities or Bonds: Bonds are issued by the Govt or Company that wants to borrow money from investors. Bonds pay a fixed rate of interest and the borrowed amount is returned at the end of the promised loan period.
3)Cash and Equivalent: Money kept in bank saving deposits, bank fixed deposits or recurring deposits and as in-hand cash come under a common asset class. This is the safest asset class but its growth potential is zero or limited.
4)Real Estate: Purchase of residential or commercial property is to invest in real estate. The growth characteristics of these investments depend on various factors. However, real estate is quite a popular investment choice in India, as it holds considerable growth potential over a longer tenure of the period.
5)Gold: This asset class comprises investments in precious metals like Gold as their value is assumed to grow with time, however, there is no guarantee in any such assumption. But again in India, Gold is a much-favoured asset class from the investment perspective because of the cultural relevance of gold jewellery in Indian marriages. However, from an investment angle, it is been said that investments towards gold shouldn’t exceed more than 10% of an investor’s overall financial portfolio.
Why Diversification in Asset Allocation is Needed?
When you invest, all you want is high returns at the cost of minimal risks or volatility, but things are not structured in that simple way. Usually, investments that are safe, have less potential of generating higher returns, and investments that can generate high returns are always subject to high volatility. So the ideal way out here is to have a balanced and mix financial portfolio through right kind of asset allocations. This means, you should be investing in all classes of assets but at the right proportion, which can be decided based on your investment needs, time horizons, risk appetite, etc. It is never wise to put all your money in one particular asset class, even keeping all your money in cash form, the safest asset cash, is actually not safe, because, under the impact of inflation, the value of money degrades.
So your best bet is to take professional advice, understand your financial goals, your risk appetite, the characteristics of each asset class and diversify your investments at a right proportion among all asset classes in order to get the best of returns and the best of safety.