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Asset Classes


Assets can be sorted into various classes, depending on their different characteristics. For instance, each asset has an expected level of return and has volatility or uncertainty associated with that return. This is called the asset's risk/return profile. Asset classes are important because the risk/return profile is the main criteria in which investors will determine what they will invest in.

The 3 main type of asset classes includes shares, property, fixed interest (includes government & company bonds) and cash. Within these asset classes there are also asset types, for example shares can be broken down into Australian shares or International shares.

Which asset class should you invest in? Each of the asset classes above have their own risk/return profile, so it really depends on your own individual needs and circumstances. How much risk are your prepared to take? What is your investment time frame? For more on risks and time frame please read our "Planning Your Investment - setting investment goals" article. In most cases though, most investors will choose a combination of asset classes to have a diversify portfolio and reduce the overall risk. For more on diversification, please read "Learn how to diversify your portfolio"

List of Asset Classes and Returns

Shares (Equities)

Classification: Growth Assets (focus on capital growth and income)
Australian Shares. Risk: high  Time Frame: 5-6 years
Internation Shares. Risk: high  Time Frame: 5-7 years

Equities (along with property) are growth assets - that is, the increase in the value of the asset may be greater than the income generated. When investors buy shares, they become a part owner of the business by acquiring a stake in the equity capital of the company.

When a company is performing well or is expected to perform well, the value of its shares is likely to rise, providing investors in the shares with capital growth. Investors also receive dividends which are paid from the profits of the company. Most large companies pay dividends twice a year, but the level of payments depends on the level of profit, and the growth and expansion strategy of the company.

Investors need to be aware that shares can be volatile assets. The value of shares can alter because of changes in the company performance but also because of industry trends, economic factors or market perceptions (simply the way investors feel).

Investors can buy shares directly in the share market run by the Australian Stock Exchange through a stockbroker or they can buy indirectly by investing in a managed investment fund.

Property

Classification: Growth

Property can be broken down into 3 categories direct property ownership, unlisted property trusts and listed property trusts. Whether you invest in property directly or through a trusts, the total return from a property investment comprises of both income (from rent received, not considered if its your own home) and capital growth (value of the property over time).

  • Income is the rent paid by the tenant to the owner for the use of the property. This income or rental is affected by factors such as the strength of the economy, the supply and demand for space, the market rate for space, the tenants, the type of property and the type of contract.
  • Capital Growth occurs when the value of the property rises, due to demand for the property because of economic factors, or increases in rents from tenants. The capital value of property will be influenced by economic factors such as the level of interest rates and inflation, and by the quality of management, the location and the type of property.

Direct Property Ownership
Most Australians have some property investment - typically their own home or a house or unit which they have bought. If the property is the principle home then the hope is that the property will rise in value over time (capital growth). For investment properties investors get the benefits of both income (rent) and hopefully capital growth.

Property Trusts
Unlike direct property ownership, where an investor may have a few residential properties, larger investors such as superannuation funds invest in much larger, non-residential properties such as office buildings and shopping centres.

Large investors may invest in property directly or indirectly. Very large investors such as life offices or superannuation funds may buy the whole property themselves or in partnership with other investors.

Obviously most people can't afford to invest in an entire office building themselves, it would be too expensive – this is where property trust comes in. Investors may invest in property indirectly through property trusts managed by an investment manager. When you invest in a property trust you buy "units" in the trusts. Any profits made will be share amongst the unit holders.

Unlisted Property Trusts
Unlisted property trusts are not listed on the Australia Securities Exchange (ASX). Due to the nature of the investment unlisted property trust are not a liquid investment. For example you can't sell part of an office building so you can withdraw your share of the unit. Usually there will specific time of the year where withdrawals can take place and in some cases not until the trust is wound up.

Listed Property Trust (LPT) /  A-REITs (Australian Real Estate Investment Trusts)
Risk:  Time Frame: 3-5 years

Once called Listed Property Trust (LPT), A-REITs are property trusts that are listed on the Australian Securities Exchange. A-REITs give individual investors the chance to share ownership in office buildings, shopping centres, car parks and tourism properties by investing in units of the trust.

Since the property trust is listed on the stock exchange it has all the advantages of a share listing, most notably it allows the holding to be sold instantly rather than having to sell the actual properties. Like shares, this means that buyers and sellers are continuously assessing the current and future value of the property investments. Also like shares, it also means the price of the units will be affected, not only by the value of the underlying property, but also by the sentiment in the share market. Investors in A-REITs have to be prepared for more volatile price behaviour than occurs with direct property holdings.

Why invest in property trusts? For investors who are in favor of high yielding dividends or distributions then property trusts worth considering, as around 90-95% of profits are returned to unit holders, this compared to around 60%for major industrial companies.

Currently there are about 30 A-REITs listed on the ASX

Fixed Interest

Risk: Medium - LowRisk - medium to high
Time Frame: 1-3 years, classification: defensive

A fixed interest security promises to pay the holder or the investor a specified level of interest for a specified period of time, with the full amount (or face value) invested, repaid when the security matures. The most widely-known fixed interest security is a bond, usually issued by a government.

The key to fixed interest securities is that the issuer of the bond pays to the holder a regular interest payment (known as the coupon payment), usually half-yearly, at a rate set or fixed when the bond is issued. In addition, the issuer agrees to repay the holder (or investor) of the bond the face value or the original amount loaned at the maturity date.

Even though bonds are issued with set terms, they are traded on the secondary bond market. In this market, the prices of bonds are different to the initial face value, depending on current interest rates, the amount of coupon payment and the forces of supply and demand. This is considered the market rate of the bond, if you were to sell your bond today.

Cash

Risk: Low
Time Frame: Forever
Classification: Defensive

Everyone uses cash each day but it is also an investment when lodged in a bank or other institution. It then becomes the asset class that carries the least risk. A ‘Cash’ investment includes bank deposits and treasury notes with a term of less than 1 year. Cash is traded daily in the short term money market (STMM).

The STMM is used by various borrowers, such as the Reserve Bank, state governments, banks, credit unions, building societies, financial institutions and companies. Investors, who include banks, other financial institutions and investment managers, then lend their money to the borrowers via the STMM.