It’s very important that you know the difference between a Financial Product and Asset Class. They are not the same
You must have come across various occasions when a sales agent would push for a financial product. There would be numerous benefits quoted by the sales agent regarding the product. But what this agent forgets is the basic aspect of any investment instrument. The returns of any financial product depends upon its underlying. For example, a public provident fund (PPF) is a debt instrument and is directly dependent on the interest rate in the economy. The underlying remains the same for a fixed deposit, government security or a corporate bond. Therefore, the return of any financial product depends upon the underlying and not on the claim made by an agent.
Every investment option can be described in terms of its risk and return characteristics. Traditionally the asset classes were broadly equity and bond. However, as investment options have extended beyond capital market products, these basic categories have also expanded to include commodities, real estate and currency. The risk and return features of each asset class are distinctive. Therefore, the performance for each asset class may vary from time to time. Following is the list of generally used asset classes and their risk-return attributes:
- Debt instrument provide fixed return in the form of coupon/ interest income.
- Debt instrument have the scope for capital appreciation when interest rates fall, but may be subject to interest rate risk when interest rates rise.
- Risk and return characteristics of Debt instrument are relatively lower than equity and hence, suitable for an investor seeking regular income flows with minimal risk.
- There are variety of assets that are categorized as debt. For example, public provident fund (PPF), National Savings Certificate (NSC), Provident Fund, fixed deposit, corporate bonds, government bonds and treasury bills.
- A stock represents ownership in a company.
- Empirical study suggests that this asset class provides higher returns if invested for long run.
- Volatility is higher in this asset class than cash and bonds as an asset class.
- Equity can be broadly classified as large cap, mid cap and small cap. We will build our deep understanding in the later lessons on equity classification.
- Remember, Life Insurance Corporation (LIC) also invests in equity. Bonus amount in case of an insurance product would also depend upon how the underlying portfolio of equity has performed.
- Real estate involves investment in land or building (commercial as well as residential).
- Real estate is also considered as a growth asset that has the potential of providing higher returns if invested for long run.
- Real estate investment includes commercial real estate, residential real estate and real estate investment trusts (REITS).
- Physical gold is preferred by Indian families as a secured and stable investment and is also highly liquid.
- Gold is generally used as a hedge against inflation.
- Gold category would include investment in physical gold, gold fund, e-gold or gold exchange traded fund.
Your portfolio ideally should be a mix of the above asset classes so that you have stability as well as risk managed growth.