There are various investment avenues open to you as an investor when looking to invest your savings. All of these avenues take you on a journey along the road to investment returns.
Some avenues may be quite a long journey but one which is reasonably straight-forward with few or no bumps on the road. Others may be reasonably short but full of bumps and hitches and little to no visibility of the horizon for the passenger.
Key Takeaways
The avenues described above are broadly categorised as ‘asset classes’. In simple words, an asset class is a collection of investments that exhibit similar traits and exhibit similar responses to market events.
The key asset classes comprise:
- Cash,
- Fixed income,
- Equities,
- Commodities; and
- Alternatives
Cash
Cash is the most liquid asset and the safest since it does not fluctuate with market pricing. However, the returns are typically low for this reason and may be negligible once inflation is taken into account.
The attraction of investing in cash or cash equivalents is its relative safety. The value of your cash investment should be stable and in addition, you should receive interest on that money through a savings account or Cash ISA.
While cash typically wins when it comes to being low-risk, it is usually perceived to lose out when it comes to long-term returns given the impacts of inflation.
Fixed Income
Fixed income, also sometimes referred to in the UK as ‘fixed interest’ or bonds more generally is the name given to a group of securities backed by a set of cashflows. They are essentially just loans.
As an investor you receive a specific and fixed interest rate over the life of the loan with the total (or principal) amount returned at the end. They can be issued by any type of entity seeking to borrow money.
If a government issues a bond, it is called a government bond (or sometimes called ‘govvies’ or ‘gilts’ in the UK). When a company issues a bond it is called a corporate bond.
The benefit of fixed income investments is that you should get a known rate of income (or a fixed income) if you hold the investment until the loaned amount is paid back(maturity). Receiving this known income could be a good idea for people who have reached retirement and have fixed expenditure for bills they need to cover.
Equities
Equities, also known as ‘stocks’, ‘ordinary shares’, or ‘shares’ are issued by a public companies, and are traded on the stock market such as the London Stock Exchange or the New York Stock Exchange.
When you invest in an equity, you buy a share in a company, and become a shareholder. The perceived benefit of equities is that they have historically delivered good returns over the longer term.
Equities have the potential to make you money in two ways:
- You can receive capital growth through increases in the share price;
- You can receive income in the form of dividends.
However, neither of these are guaranteed and there is always the risk that the share price will fall below the level at which you invested or the company may cease operations.
One of the principal drawbacks of equities is that it is a volatile asset. Simply put, this means that share prices and so by extension, your investment value, can rise and fall often and by large degrees.
Commodities
Commodities are raw materials used to create the products we as consumers buy, from food to furniture and from gasoline to petrol. Commodities include:
- Agricultural products (or ‘ags’) such as wheat and corn;
- Energy products such as oil and natural gas;
- Precious metals such as gold and silver;
- Industrial metals such as copper and aluminium;
- Soft commodities i.e. those that cannot be stored for long periods of time, which include sugar, cotton, cocoa and coffee.
Where equities and bonds as described above, are called “financial assets”, commodities are called “real assets,” and they tend to react to changing economic fundamentals in different ways than stocks and bonds.
As a result, commodity returns have historically been largely independent of stock and bond returns. However, it must be noted that commodities can be very volatile, more so that equities, with large and sometimes sustained swings in prices.
Alternatives
Alternatives is a broad term used to describe to any investment which does not fall into one of the other asset classes. This is a very broad asset class comprising investments such as:
- Hedge funds,
- Private equity,
- Property (also called ‘real estate’),
- Collectibles such as wine, classic cars, art; and
- Newer investments such as cryptocurrencies and non fungible tokens (NFTs).
Alternatives can be characterised by their relative illiquidity, lower levels of regulation and low correlation to public markets. Assets such as property which can include both residential (such as flats and houses) and commercial (such as offices or shopping centres) can be difficult to sell quickly.
The same is also true of private equity which are shares of companies, like we described above in equities, but which are not listed on a stock exchange. As such it can be difficult to find buyers for these investments.
Investments such as cryptocurrencies or collectibles are not regulated and so can entail significantly greater risk due to this lack of formal oversight or standardised rules governing investments or behaviour.
A key attraction of all of these investments however is a low correlation to the returns of assets such as bonds and equities.