What is an asset class?

In order to understand what asset allocation is, we have to first wrap our heads around what an asset class is. In simple terms, an asset class (equity, bonds, commodities like Gold, etc.) is a group of investments that have certain common characteristics and behave similarly to each other.

Consider all the products you use in your day-to-day life like your mobile phone, laptop, television, and so on. Even though you can watch your favorite Netflix show on all of the aforementioned gadgets, each gadget has their individuality and serve different purposes.

This is the same in terms of asset classes. Even though several of the asset classes can be used for wealth building and wealth preservation, each asset class serves its own purpose and are irreplaceable in their own right.

What are the different types of asset classes?

Looking at history, there have been four major types of assets classes. They are:

• Equities (Stocks)
• Fixed Income (Government and Corporate Bonds)
• Money Market Instruments (T-bills, commercial paper)
• Commodities (Gold, Silver, Oil)

However, nowadays there are a wide array of assets classes from which you can pick and choose from like real estate, artwork and NFT's, collectibles, futures and financial derivatives, and cryptocurrencies.

Next, let's take a quick look into each asset class and how it can help you achieve your financial goals.

• Equities (Stocks): Owning stock or a share in a company means that you are a part-owner of the company you invested in. This means that you are entitled to your share of the earnings of the company. Shares are issued by publicly traded companies and are traded on stock exchanges such as the NYSE or NASDAQ. The two ways in which you can benefit from owning stock are through a rise in the price of the stock due to supply and demand or by receiving dividends. A company gives a shareholder a dividend when they want to distribute a part of their profits to their shareholders.
• Fixed Income: This category includes assets like Fixed Deposits, Recurring Deposits, Government and corporate bonds, and so on. These assets have a lower expected return than equity but they are stable and do not fluctuate a lot (less volatile). Hence they are considered less risky than investing in stocks but with a lower return expectation. Fixed-income assets generally pay a set rate of interest for a specified period of time and then return the investor's capital after the time period is completed.