What is an asset in investing?
In the world of investing, an asset is a resource that provides some form of benefit to the company, country, or person that owns it. It is an economic resource that increases revenue, decreases cash outflow, or promotes growth and expansion.
A company may produce certain assets that investors then purchase. For example, if a mining company mines a large quantity of gold, it can sell that asset to investors in precious metals.
Individual assets fall into different asset classes based on their characteristics—these investment classes group together as an asset class that carries a similar risk to the investor.
Investing in different types of bonds means risking inflation and credit. Assets in this class have lower liquidity than what you’ll find in commodities. Conversely, many people invest in real estate for its long-term cash benefits.
To mitigate their risk, many investors diversify by investing in different asset classes. By investing in multiple asset classes you can lower your risk since one asset may underperform while another does exceptionally well.
One asset class isn’t necessarily superior to other classes. Instead, each different asset class presents unique opportunities to grow your wealth. Regardless of your investment strategy, your asset class should match your risk tolerance and goals.
Types of assets/asset classes in investing
Asset classes can be divided into five distinct categories based on investment characteristics. These include stocks, fixed income, cash equivalents, commodities/real estate (tangible assets) and futures/options.
Stocks
When you buy stock, you purchase a share of a specific company. The number of shares a company has depends on the size and worth of the company, and the quantity you buy depends on availability and price.
Many beginning investors start with stocks because they make excellent long-term investments. People who bought shares in major companies like Microsoft or Apple when they first started have seen their stocks’ values appreciate over the years.
For instance, you can buy and sell stocks on a stock exchange (like the Toronto Stock Exchange (TSX) and NASDAQ Canada) using an online broker.
Fixed income
Most investors regard fixed-income investments as a lower risk due to their interest return and low liquidity. Assets in this class come in the form of bonds and exchange-traded funds (ETFs).
When investing in fixed income, you are essentially lending money to an institution, such as the government, by purchasing bonds. You lend money to the institution, and in return for your loan, it periodically pays you interest for as long as you own the bond. Bonds’ low risk comes from these guaranteed payments, which you won’t find with other assets like stocks.
Many investors buy bonds using ETFs through bonding holdings like BMO Aggregate Bond Index ETF (TSE: ZAG) and iShares DEX Universe Bond Index Fund (TSE: XBB).
Cash equivalents
Cash equivalents and money market instruments have two advantages: liquidity and accessibility. Those benefits make them ideal for short-term investing.
Investors classify money market instruments as current assets, meaning they usually expect to sell them within one year. This asset class represents cash in the form of physical currency, like coins.
While they are liquid assets, they also have a set market price. They also compare well to other asset types since companies with cash equivalents are usually better able to pay debts.
GICs (Guaranteed Investment Certificates) are an excellent example of a low-risk investment option. These investments offer a guaranteed interest rate, making them one of the safest choices for your money. Typically, GICs provide higher interest rates (often above 1.5%) compared to traditional savings accounts. Most banks offer GICs and they are very easy to set up: simply deposit your funds into a GIC account. Your investment is then usually "locked in" for a predetermined period, ranging from 30 days to 5 years. Once the GIC matures, you have the option to either reinvest the principal and earned interest or withdraw the funds.
Just make sure to shop around for the best GIC rates in Canada before investing. Our top choice is EQ Bank because it has no fees, a low minimum deposit requirement of $100, and flexible terms ranging up to 10 years.
Learn more about GICs with EQ Bank
Commodities and real estate
Commodities, combined with the real estate asset class, are tangible assets. While these two asset class categories are similar, they function differently.
Both involve owning a physical asset. For example, when you own real estate, you own a home that you may rent to tenants. Buying commodities, in comparison, can mean owning livestock or metals like gold and silver.
Tangible assets have much higher liquidity than other assets, like bonds. They often survive inflation, meaning they can prove excellent long-term investments. Given how many types of commodities and real estate you can find, they’re also a great way to diversify your portfolio.
Futures, Options, and Forex
Some investors classify futures as a trading method rather than a separate asset class since you can find futures contracts, options, and forex trading in any other asset class.
When you trade futures, you agree to buy a specific asset later at a designated price, which remains constant, regardless of whether the market price of the asset rises or falls.
“Options” allows the buyer or seller to trade assets within a specific timeframe but doesn’t force them to do so as futures contracts do.
Foreign exchange trading (or “forex”) works with exchanging currency on an international market. However, in forex trading, you buy another currency equivalent to the one you want to trade.
Before you trade forex in Canada, you must register with the Investment Industry Regulatory Organization of Canada (IIROC). With Questrade, you can trade forex with ease. They give you competitive pricing on more than 110 currency pairs and their target spreads are as little as 0.8 pips (assuming market conditions are normal).
Asset allocation explained
Before you invest your hard-earned dollars, if you’re new to investing it can be wise to work with a financial advisor or use a robo-advisor to determine your investment strategy. Your investment strategies will help you determine which asset class offers the lowest risk and best potential benefits for your needs.
When deciding how to allocate your assets, consider your time horizon, and risk tolerance. Some asset classes, such as cash equivalents and bonds, work better as short-term investments.
When considering a short-term asset class, liquidity may be a priority if you think you might need fast access to cash. In this case, you would look for assets that can be bought and sold swiftly. Conversely, real estate provides a market that fluctuates with inflation, offering a longer-lasting investment compared to other asset types.
Risk tolerance works with your time horizon to determine how much money you can afford to lose if your investments depreciate. No investment comes without risk, but there’s more uncertainty with options than bonds.
If you have a high-risk tolerance, you may see better returns later, but those big wins won’t matter if you can’t afford to lose money. However, diversifying your assets can help to mitigate some of that risk.
Investing in various asset classes reduces the likelihood that all of your investments will crash at the same time. In some cases, the conditions that cause one asset's value to drop may actually benefit another. Well-considered balanced investment strategies can help minimize your losses.
A robo-advisor like Wealthsimple can help you balance your portfolio. When you sign up, you’ll just need to fill out an online questionnaire and the computer’s advanced algorithm will take care of the rest by recommending a balanced, diversified portfolio that corresponds to your risk tolerance. It takes just a few minutes to sign up, and if your circumstances change, you can easily update your risk and growth preferences to align with your changed financial reality.
What asset classes should you pick to build your portfolio?
Your investment assets will determine the type of portfolio you build over time. In general, most people choose between three types:
- Aggressive: Aggressive investment portfolios reflect a higher level of risk and usually feature long-term assets. Investors who adopt aggressive strategies often allocate a larger portion of their portfolio to stocks and equities and hold fewer bonds. The main objective of these portfolios is to achieve substantial returns over the long term, rather than prioritizing immediate value or short-term gains.
- Moderate: Moderate portfolios prioritize keeping a balance between each asset class. Stocks often make up 50% of these types of portfolios, with the remaining half being divided between fixed-income securities and cash equivalents.
- Conservative: Conservative portfolios are often favoured by beginning investors and people who are not comfortable with risk. These portfolios often invest up to 75% in bonds with the remainder going to more liquid assets.
Although many investors choose one of these three portfolio types, not everyone invests in the same asset classes. The ones that work for you will depend on your goals, risk allowance and time horizon.
How to invest in asset classes
There are two easy ways you can invest in asset classes: either as a DIY investor or by using a robo-advisor. Here are the different approaches:
Option 1: DIY investing with an online brokerage
To cut costs to the bone, you can DIY invest with an online brokerage. For instance, Questrade offers free ETF purchases and stock trading for as little as $4.95.
Another good option is Wealthsimple Trade, which allows clients to buy and sell stocks and ETFs for free online or via the app.
Since you’re flying solo, it will require some patience and research, but here are some steps to getting started:
1. Decide what your asset mix will be
You don’t want to focus too much on just one asset class and you also have to determine your risk tolerance. I recommend investing the largest portion of your portfolio in stocks, with varying degrees of other asset classes based on your financial goals and risk tolerance.
The easiest way to do this is by taking 110 and subtracting your age (if you’re a more aggressive investor, you can use 120). This will give you the percentage of your portfolio that should be invested in stocks.
So, for example, if you’re 35, you should have about 75% of your money in stocks (110 – 35 = 75). The rest should go into bonds, cash equivalents, or other “safer” investments.
2. Determine what specific investments you want to buy
Once you settle on what you want your asset class mix to be, it’s a good idea to look at the specific types of investments within that asset class to ensure they mesh with your investment priorities and tolerance for risk. If you’re buying stocks, you may want to do a deep dive into the [best ETFs to buy in Canada]https://money.ca/investing/top-etfs-young-canadian-investors/). Again, since you don’t put all your eggs in one basket, ETF investing will automatically give you a diverse mix of stocks. If you’re feeling overwhelmed, take a look at the best investments in Canada.
3. Plan a buying strategy
In a perfect world, you’d have enough money to kickstart your portfolio and buy the perfect percentage of asset classes. But it’s not a perfect world, and these things take time.
That said, you should plan out how you want to invest. Meaning, do you want to invest a lump sum and divide it across multiple asset classes (i.e., stocks, bonds, and real estate)? Or do you want to start small and have a path forward for how all “new money” will be allocated to those asset classes? Above all, pay yourself first by automating your investment contributions.
Diversifying your portfolio also means examining market capitalization, or market cap, which directly reflects the size of the company and, in most cases, the asset prices. It’s a good idea to have a mix of small- and large-cap companies.
If you choose passive investing, you can purchase assets and hold onto them without watching the market too closely. However, if you want to manage your portfolio with a hands-on approach, you will want to look at the top investment strategies for active investors. Active investors typically buy and sell index funds to keep up with the market.
Some active investors prefer hedge funds over individual investing. Hedge funds involve pooling money from several participants, with a portfolio manager that controls the funds and makes investment choices. This type of investing also uses more advanced trading techniques like leveraging and short-selling
Ideally, you want a mix of active and passive investing to allow you to seize opportunities when they arise.
4. What if you just want to keep it simple?
To simplify the process, you could potentially achieve diversification entirely through stocks and stock funds. For instance, you could purchase individual stocks as part of your investment strategy, while also investing in funds that hold assets related to specific asset classes, such as cash equivalents or real estate. This approach gives your ample exposure to those asset classes without the need to directly own the underlying assets.
You can explore the different asset classes with your online broker to learn which ones are the best fit for your portfolio. For instance, using an online broker like Wealthsimple Trade or Questrade, you can search for the fund you want to invest in.
Let’s say you want to invest in real estate and you’ve found The Vanguard FTSE Canadian Capped REIT Index ETF (TSE: VRE.TO). All you need to do is type in the ticker symbol (VRE.TO) in the search bar and you’ll then be brought to the investment’s main information page. From there you can opt to buy shares quite easily.
Option 2: Investing with a robo-advisor
A professional financial advisor can work with you to decide which assets are the best match for your investment goals but that comes at a price. If you’ve just entered the world of investing, another good (and more affordable) option is to try using a robo-advisor instead.
Robo-advisors, like Wealthsimple, use advanced algorithms to create and diversify your portfolio based on your answers to a set of investing questions. They also charge a lot less than financial advisors – typically less than 1% compared to the usual 2-3% you’ll have to pay with a financial advisor.
Using a robo-advisor will save time and energy, but your asset class options will be more limited. Depending on the portfolio type you choose, you’ll have a certain blend of stocks and bonds. While the ETFs offered by Wealthsimple don’t necessarily include real estate, cash equivalents, or other types of asset classes, those investment types are embedded within the ETFs themselves. For example, the Vanguard Total US Market ETF will have broad exposure to US-based stocks, many of which include real estate.
Every investor’s portfolio looks different, as everyone has different goals and risk allowances. By starting with a robo-advisor, you put yourself in a position to get the maximum gain from your portfolio, no matter which asset classes you choose.
The last word
In conclusion, developing a strong understanding of asset classes and learning how to invest in them is crucial for anyone who wants to become a well-informed and successful investor. This article should provide the main things you need to know to get started, but for a deeper dive, read our guide on how to start investing and how to buy stocks.
With files from Sandra MacGregor
