Whether it’s taking a more active interest in our superannuation, starting to build an investment portfolio, or even trying our hands at playing the stock market, we can all benefit by understanding the language and key concepts of investing.
There is a huge range of potential investments out there, and these can be grouped together in asset classes that are based on shared characteristics. There are many asset classes, however the major ones that most mainstream investors focus on are shares, property, fixed interest and cash.
Why are asset classes important?
One of the golden rules of investment is that when seeking higher returns, investors must take on a greater degree of risk. Quality fixed interest investments provide a high certainty of a particular return. They are low risk, and the returns they offer reflect this. However, for any given share, we don’t know what its price will be in a week, a month or a year. Prices may be volatile, the return is uncertain, so a share is a higher risk investment. However, that risk can be a positive thing – upside risk – which is the potential for the share to generate a higher than expected return.
Asset classes bundle together investments with similar risk and return profiles. By blending these asset classes together in different proportions – a process called asset allocation – investors can construct portfolios that provide levels of risk and return that suit specific needs.
This blending of different asset classes results in diversification, which is a critical risk management tool. As different asset classes over and under perform at different times, mixing different asset classes lowers the volatility, and hence the risk, of a portfolio.
As far as returns are concerned, studies have shown that over 90% of a portfolio’s performance is determined by the asset allocation. It’s vastly more important than individual investment selection or the timing of purchases and sales.
Help is at hand
Of course, there’s more to investing than can be conveyed in a short article, but that’s no reason to delay putting the various markets to work. Speak to us today and we can help you understand your risk comfort level and design an investment strategy that’s right for you.
The information provided in this article is general in nature only and does not constitute personal financial advice.