Asset classes explained

To improve the potential for long-term gains and to spread risk, you should vary your investments.
June 2018

Let’s talk about risk

The value of your investments can go down as well as up, and you may not get back what you originally invested.

 

Don’t put all your eggs in one basket

 
When it comes to investing this old saying holds true. To improve the potential for long-term gains and to spread risk, you should vary your investments.

 
This strategy will help reduce the negative impact of a poor performing economic region or company on your portfolio.

 
You can choose ‘traditional’ asset classes for example, cash, equities or shares and bonds. Or there are ‘alternative’ asset classes, now available to private investors which include commercial property and private equity trusts.

 
Find out more about each of these asset classes and the benefits and risks of each one the sections below.

 

A share is often referred to as equity. It is a unit in a company listed on a stock exchange. For example, if a company is worth £100 million and has issued 100 million shares, then each share is valued at £1.
 
The overall value of the company can go up or down. This could be because of a change in supply or demand for the goods or service the company is offering. It could be because of merger and acquisition activity, competitor activity or the economic environment. All these things can cause a change in the share price.
 
Benefits
 
Long-term returns – in the past equities have delivered better returns over the long-term than bonds or cash. Despite recent market volatility the case for investing in equities over the long-term is still strong. Short-term market downturns have less impact when investing for a period of 10 years or more.
 
Inflation proofing – the real value of cash savings can reduce over time. This is especially true when inflation rates are higher than interest rates. That’s why equities, which can grow your capital and may give you a growing income over the long-term may be a better option.
 
Global exposure – your investment in equities is not restricted to companies in the UK. This means you can invest in a different region of the world or in shares of multinational organisations. This gives your investment global potential.
 
Income potential – companies can pay income to shareholders in the form of dividends. This could give you a regular income. But companies don’t always pay dividends, so you shouldn’t rely on this.
 
Risks
 
There are several things that could cause the price of shares to fall. Some things that could make a share price fall are things the company can’t control. Sometimes the share price can fall below the value an investor paid for it. Typically investing in the stock market should done over at least a 10-year period. If you need access to your money in the short term, say less than five years, then an equity investment is probably not for you.

A bond or fixed income asset can simply be described as a loan. A government or company can borrow money by issuing a bond. In return they promise to pay a predetermined rate of interest in addition to paying back the original loan amount when the bond matures.
 
Benefits
 
Regular income – bonds pay a fixed level of income on a specific date which may make them appealing to people looking for a regular income payment for example in retirement.
 
Less risk than equities – a company is contractually obliged to pay the interest on a bond. If a company runs into financial trouble bond holders will be paid before equity holders.
 
Diversification – traditionally bonds and equities are not affected by market events in the same way. Because of this having a mix of bonds and equities in a portfolio can help to reduce investment risk.
 
Risks
 
All investment carries some risk. If a company doesn’t pay back the loan the value of a bond can fall. As bonds are traded on the stock market their value rises and falls and an investor might not get back the amount they originally invested.
 
Changes in interest rates can also cause the value of a bond to rise or fall in value. Investing in different bonds from different companies and sectors for example in an investment trust or mutual fund can help to spread risk across an investment portfolio.

Cash is the most familiar form of investment for most people. We use it every day and have a bank account which may pay a level of interest on our savings.
 
Benefits
 
Cash is the safest form of investment. The government will protect up to £85,000 held in a bank account if that bank gets into difficulties. Cash accounts make sense for savings that you will need access to within the next few years or as a rainy-day fund for unexpected bills.
 
Risks
 
The biggest risk to holding your savings in cash is inflation. If the rate of inflation is higher than the rate of interest you are earning on your savings you are losing money.

Investing in property could mean owning your own home. Or it could be becoming a buy-to-let investor in the residential property market. When it comes to investments though, typically ‘property investment’ means commercial property. This includes warehouses, offices, industrial estates and shopping centres.
 
Benefits
 
Potential returns – property offers the potential for attractive long-term financial gain if the value of the property rises.
 
Diversification – things that may change the value of property are usually not the same things that could change the value of equities or bonds such as short term movements in the stock market. This means adding property to your portfolio is a good way to spread the risk of your investments.
 
Income – rents can provide an attractive and regular income for investors. This is often one of the main reasons people invest in commercial property.
 
Risks
 
It is not always easy to sell property quickly and you might end up selling for less than you paid. Also, the value of property assets is decided by professional valuers. It’s important to remember these valuations are opinion. Similar properties may have sold for less and the amount of the valuation can change over time.

Private equity involves investing in companies that are not listed on the stock exchange.
 
Private equity investors often invest in underperforming companies. The idea is to improve the performance of that company to make a profit. They also invest in companies looking to expand or increase research and development with the intention of generating greater profits. Many well-known companies such as Starbucks, Apple and Google started off with private equity investment.
 
Benefits
 
Potential for higher returns – by investing in companies that could turn their performance around or companies with the potential for rapid growth there is the potential for higher returns than traditional companies listed on the stock exchange.
 
Risks
 
Due to the fact private equity often invests in start-ups, young companies or companies that are restructuring there is the potential that these companies will not survive. It is a much riskier investment than investing in larger established companies.

This section of the website is directed at persons who are located in the UK. Please read our full terms and conditions and the relevant Key Information Documents (“KID”) before proceeding with any investment product referred to on this website. Nothing on this website is, or is intended to be, advice to buy or sell any investments. If you are at all unsure whether an investment product will meet your individual needs, please seek advice.

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Let’s talk about risk

The value of your investments can go down as well as up, and you may not get back what you originally invested.

 

Glossary

Confused? Our handy glossary can help explain investing terms.