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Asset Classes Explained
Financial and Commodity Market Asset Classes
What is an asset class?
An asset class is a group of securities or investments that share related characteristics and behave much the same way in the marketplace. Each class is often subject to the same laws or regulated in a similar way, though this may not always be the case.
There is a long-running debate about exactly how many asset classes there are, with many financial experts preferring to use fewer, broader categories, and others more numerous, specific classes. The financial markets are changing all the time — new products pop up and others lose popularity — so it’s hard to point to a definitive answer.
In this guide, we’re going to use the five traditional asset classes, plus three more for the investments that don’t fall into these main categories.
Historically, the three main asset classes have been equities (stocks), fixed income (bonds), and cash equivalent or money market instruments. Currently, most investment professionals include real estate, commodities, futures, other financial derivatives, and even cryptocurrencies to the asset class mix. Investment assets include both tangible and intangible instruments which investors buy and sell for the purposes of generating additional income on either a short- or a long-term basis.
Typical investments: Bonds, debentures, gilt-edge bonds
Risk profile: Low
Fixed-interest investments — sometimes known as fixed-rate securities — are an asset class that sees investors loan their money to a company or government in exchange for a security, in the form of a bond or similar product, that pays an agreed rate of interest. This rate remains the same throughout the duration of the investment. When the investment matures, you’ll also be paid back the original amount you put in.
Read more about Fixed Income here
Typical investments: Purchase of equity in a company listed on the stock exchange
Risk profile: Medium to high
When you buy shares — also known as equities — you are buying a small portion of ownership in a company. Each share represents a unit of ownership, so the company value is divided by the number of shares to give the share price. Shares are traded on the stock market, where the daily value of each company’s shares are listed.
There are a number of factors, such as if the company does well or undergoes a merger, that can cause the value of a business to increase and boost the worth of each share. On the other hand, if the company does badly, the shareholders can face a drop in the worth of their shares.
Find out more about Equities here
Typical investments: Physical currency, bank accounts, savings accounts, cash ISAs
Risk profile: Low
Cash is the asset class that you’re probably most familiar with, as we use it on a daily basis to pay for goods and services. The asset class for cash includes physical currency, the balances of savings and current accounts, cash ISAs, premium bonds, and money market funds.
Read more about Cash Equivalents here.
Typical investments: Commodity futures, Stock index futures, Currency futures, Precious metal futures, Treasury futures.
Risk profile: Medium
Futures are derivative financial contracts that obligate the parties to transact an asset at a predetermined future date and price. Here, the buyer must purchase or the seller must sell the underlying asset at the set price, regardless of the current market price at the expiration date.
Underlying assets include physical commodities or other financial instruments. Futures contracts detail the quantity of the underlying asset and are standardised to facilitate trading on a futures exchange. Futures can be used for hedging or trade speculation.
Find out more information on Futures here
Typical investments:, commodities, currencies, interest rates, market indexes, and stocks.
Risk profile: Medium to high
A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset (like a security) or set of assets (like an index).
Generally belonging to the realm of advanced investing, derivatives are secondary securities whose value is solely based (derived) on the value of the primary security that they are linked to. In and of itself a derivative is worthless.
Find out more about Derivatives here.
Typical investments: Oil, coffee, gold
Risk profile: High
Commodities are raw materials that are bought and sold on global markets where supply and demand, as well as other global issues, dictates the price. They can include fuels like oil and gas; precious metals like platinum, gold and silver; agricultural products like wheat, coffee, and dairy products; industrial metals like copper, iron, and steel; as well as many other things. A lot like shares, commodity markets regularly rise and fall, but they tend to be much more volatile.
Find out more about Commodities here
Typical investments: Buying your own home or a holiday home, investing in buy-to-let and commercial projects.
Risk profile: Medium
Investing in property can take many forms, such as buying your own home or getting involved in commercial property, like offices, warehouses, and retail space. There are opportunities to invest in both small and large-scale projects, ranging from a single buy-to-let to joining an investment fund that owns large-scale commercial sites.
Find out more about Real Estate here
Typical investments: Cryptocurrency, Art and antiques, wine, watches, peer-to-peer lending
Risk profile: Low to high depending on investment
Aside from the main five asset classes, there are other areas that you can invest in to really add diversity to your portfolio, though it’s worth remembering that each will have its own levels of risk and reward that you should research.
Although these fall outside of the traditional asset classes, many alternative types have been traded in for a very long time. Art, antiques, stamps, watches, wine, and jewellery are all examples of valuables that have been traded for centuries. On the other hand, there are many new asset classes that have only emerged in the last few years, such as cryptocurrencies and peer-to-peer lending, demonstrating just how diverse the investments marketplace can be.
To find out more about alternative investments here
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