What Are Asset Classes?
Published 3:49 am 7 Oct 2021
Knowing what the various asset classes are is a prerequisite for any budding investor or business owners. So, let’s take a look at what asset classes are.
American businessman Robert Kiyosaki famously once said,“money doesn’t make you rich – assets make you rich.” But what does that mean?
Well, put simply, owning the right selection of assets and making them work for you, can enable you to generate significant passive income, rather than being solely dependent on your salary to get ahead.
Carefully choosing the right assets portfolio to suit your wealth creation strategies, creates an opportunity for a faster way for you to build wealth.
But before we dive into the various types of assets, let’s look at what an asset is.
What is an asset?
An asset is any kind of resource that is owned by an individual or corporation which has economic value. Individuals or companies will hold assets with the expectation that they will provide a future benefit, usually by increasing in value over time.
So what are some examples of assets?
Types of Asset Classes
Generally speaking, there are five different types or categories of assets, often referred to as asset classes. The five asset classes are as follows:
- Shares: Also known as equities, shares reflect a portion of ownership in a publicly-listed company. Shares are traded on stock exchanges such as the ASX or the NYSE, and their price will fluctuate based on market forces. Individuals and companies can profit from shares either through a rise in their share price, or by receiving dividends.
- Bonds: Bonds are issued by governments and corporations as a means of raising money. Individuals or companies will buy bonds, which is effectively an IOU to that individual or company from the bond seller who agrees to pay you back the bond price and interest payments by a specific date. Bonds are generally considered safer than stocks, however they can fluctuate in price based on interest rates. In rare instances, your bond value can dip below what you purchased it at.
- Property: Heralded as a great hedge against inflation, commercial and residential property can be purchased either directly or as shares in a real estate investment trust (REIT). In Australia, investing in property is one of the go-to methods of wealth building, as property values have steadily increased for decades.
- Commodities: There are many different forms of commodities, however the commodities which are traded as assets usually fall into four categories: metals, energy, livestock and meat, and agricultural. Investing in commodities is considered to be risky as their price fluctuations are difficult to predict. However, commodity values generally increase in times of high inflation.
- Cash: While we started off this article by quoting Robert Kiyosaki that it’s assets rather than money that makes one rich, money is itself an asset. This is because cash is highly liquid and can be used to settle liabilities. Cash is a relatively safe asset to hold, however it will decrease in purchasing power alongside increases to inflation.
Assets are then broken up into Current Assets, Fixed Assets, Defensive Assets and Growth Assets.
Current assets refer to any asset which is expected to be turned into cash within the next 12 months. Common examples of current assets are cash and stocks.
Fixed assets, on the other hand, refer to resources which will be held over the longer term (beyond 12 months). Fixed assets may serve a recurrent purpose to a company, such as equipment or buildings, and may be subject to depreciation, or a decrease in value over time.
What is a Defensive asset?
Defensive Assets derive their name from being a safer asset to hold, as they are lower risk and less volatile than other assets. Cash and Bonds are defensive assets, as they are considered to have the lowest risk of any asset.
What is a Growth asset?
A Growth Asset has the potential to deliver higher returns over the long term than defensive assets, however they have higher volatility and therefore can be a medium-high risk asset.
Growth assets are often held for five years or more, and include shares, property and commodities.
Which asset class has the highest return?
By definition, growth assets such as shares and property are expected to yield the highest returns. However, the asset that will yield the highest results will vary from year-to-year.
The financial company Andex has an interactive graph that maps out the growth of $10,000 if it had been invested in various asset classes since 1991. According to the graph, investing that money into U.S. shares would have yielded the highest returns, and that money would now be worth over $217,000.
Following U.S. shares are Australian shares, then Australian property, then International shares, bonds and lastly cash.
Given that each asset class will yield a different return from year to year, many investors choose to have a diversified portfolio, in order to mitigate risks.
What is asset allocation?
Asset allocation refers to the process of minimizing risks and maximising profits through having different allotments of assets. Asset allocation is also referred to as having a diversified portfolio, and can be boiled down to not having all of your eggs in one basket.
Advantages of a diversified portfolio
Let’s say that you split your asset allocation into being 50% in property and 50% in stocks just before a recession hits. Given that both of these asset classes historically will dip during a recession, your portfolio will take a hit too.
Commodities and bonds, however, tend to perform well during a downturn in the economy or a bear run in the stock market.
As such, you want to ensure you have a balance of different assets to ensure you can weather the various threats to each asset class, and that all your eggs aren’t in one basket.
You can also take this diversified approach to a more granular level, and diversify assets within asset classes too.
Take stocks, for example. Part of your asset allocation may include stocks, however, not all stocks perform the same.
There are small-cap, mid-cap, and large-cap stocks, which refer to the market capitalization of any given publicly-listed company.
Generally speaking, large-cap stocks are issued by any company worth $10 billion or more, and small-cap stocks come from those worth between $250 million and $2 billion.
If you only had invested in stocks of small-cap companies prior to the COVID-19 pandemic, or even if you had a lot of stocks of companies that were travel related, your portfolio would have taken a dive. That’s why it’s important to not only have a diversified allocation of assets, but to also have a diverse range of assets within each asset class.
ETF’s & Index Funds
A good way to ensure you have a diversified portfolio is to consider investing in index funds and Exchange Traded Funds (ETFs).
Both ETFs and index funds bundle together investments such as stocks and bonds, into a single investment. Investing into an ETF or index fund can save you time and effort in diversifying your portfolio and give you exposure to a broader array of companies/assets.
For example, you could invest in ETFs such as the S&P500 or the ASX200, which pool together the largest companies in the U.S. and Australia respectively, into one investment. Index funds and ETFs allow investors to have exposure to a market more broadly as opposed to a specific company.
The primary difference between ETFs and Index funds is that ETFs can be traded throughout the day, while index funds can be bought and sold only for the price set at the end of the trading day.
How to Protect your assets
Having a focus on building a diversified portfolio of assets is an important step to building wealth over the long term.
Owning assets can allow you to generate various streams of passive income and is the go-to strategy for many successful individuals in growing their wealth.
However, while it’s important to focus on growing the amount of assets you have, it’s equally important to ensure those assets are protected.
When financial hardship arises, such as a market crash or a business failure or any other unexpected hit to your finances, your assets can become vulnerable to creditors and seizure.
To ensure you don’t lose everything you’ve worked hard to build, attend one of our Master Wealth Control seminars.
The Master Wealth Control program was created from the hard learned lessons of the company’s founder Dominique Grubisa, who had previously lost everything due to circumstances beyond her control. She went from having a multi-million-dollar property portfolio, to living with her in-laws and avoiding calls from creditors.
Eventually, she managed to claw her way back to a stable financial position and thrive. She also vowed never to be in the same position again, without control over her finances, her assets and her life. So, she structured herself with asset protection to ensure that everything she owned and worked so hard for was protected from attack now and into the future for generations to come.
You too can learn these lessons and create your own personal asset protection legacy for you and your family.
You May Also like to Read
Is your suburb at risk of facing climate-related damages in the future? Over the past twelve months, Australia’s...
Often considered the “red flag” of real estate, here is everything you need to know about Caveats on properties. A...
Australia’s lauded COVID-19 strategy is wearing thin. Australia has been the envy of the world for most of the...
With more than half of the country now in lockdown, the threat of another recession looms over Australia. Prior to...
Sydney’s Lockdowns have been extended for a further 4 weeks - and that might be just the beginning. Here’s the support...
We all want to build a collection of assets to increase our wealth, but it’s just as important to learn how to protect...