Not just one ingredient in a recipe – Investments

Home » Blog » Asset classes » Not just one ingredient in a recipe – Investments
grass
Demystifying investments

Investing can be daunting for the average person, not helped by gurus using insider jargon like asset allocation or asset liability modelling, beta, TER, standard deviation, efficiency frontiers and dozens more. Of course you can learn all of these by watching business news every day and googling the terms – but unless this is your job or passion – it’s like watching paint dry. So, what do you need to know so you aren’t ripped off, and what can you leave to the investment nerds that advise you and structure those products?

Asset classes: Basically (and yes, you can get way more complicated if you want to) there are four. Stocks, Bonds, Cash and property. Stocks are found on the local and international stock exchanges. Bonds are similar to cash, and the return is similar. They are issued by government and corporates (they issue them to raise funds, just like you get a mortgage bond to raise funds for your house – it’s long term debt). Property can take various forms, but it is usually commercial rental property. Cash needs no explanation. off shore investments comes with one other big variable. The asset classes will be the same but you have to factor in exchange rate fluctuation. It adds a whole new layer of risk. If the offshore market drops and the exchange rate improves, you’ll have a double whammy.

Return on Investment: Bucks back! This can take various forms. Interest from cash, yield from bonds, capital growth and rental income from property, capital growth and dividends from stock.

Risk: Each of those asset classes behave differently. When you bake a cake the baking powder behaves differently to the egg, but work together to come up with the final yummy product. Cash and bonds don’t give a great return, usually around inflation rate – but they don’t bounce up and down. If you’ve got a delicate investment stomach – that is the way to go, but it isn’t going to grow much beyond inflation. Property is in the ‘new normal’. It used to give a fairly even return, without the ‘volatility’ you get from the stock market. The 2008 credit crunch and recession was caused by property shenanigans in the States, and since then we have entered the ‘new normal’. Property has shown itself to be just as volatile and unpredictable as the stock market, but also giving some decent returns. In 2014 the returns from property outstripped the stock market. The stock market can be very volatile. It can bounce up and down percentage points on a daily basis.

Asset allocation is probably one of the cornerstones of an investment portfolio. Just like you can’t make a cake with just one ingredient, so your investment portfolio can’t have just one asset class, unless you’re severely risk intolerant and it is all in cash. Why? Your investments will be short (emergency funds), medium (saving for a deposit or education) and long (retirement). Each of these objectives are better suited to different asset classes, and they can be blended to suit those needs. Eggs, flour and milk can make a pancake or a cake. It depends on the quantities of each ingredient. Formal retirement fund ‘ingredients’, for example, are regulated by the Pension Fund Act. You cannot have more than 75% in stocks, because it is volatile (bounces up and down), and the government don’t want you to lose all your capital. ‘Managed’ Collective Investments (Unit trusts) blend those asset classes for you. Fund of Funds will achieve the same effect, but are often pricey (it’s that TER acronym they use. Total Expense Ratios).

Time horizons: Short term investments need to have some certainty. You don’t want to lose half your investment from one month to the next. Cash in one form or another is best for this. Savings accounts or money market accounts are usually best. Medium term investments (4-8 yrs) could do with a bit more return, so you can add some property and stocks without risking the whole lot. You won’t end up with a black forest cake, but maybe a bran muffin. Long term investments should have at least an 8 year horizon. Why? It gives the cake enough time to rise and fall and rise again in the oven. Don’t open the door before it’s ready or it will flop. Ever taken a soufflé out of an oven before its ready? Yup. Mess!

Actions: Get your advisor to summarise and analyse your investments by asset class, then tweak the ingredients to get the best result.

Sign up for our Newsletter HERE. Follow Dawn on Twitter HERE

Please share on Twitter, Facebook or LinkedIn (buttons below)

Author Dawn Ridler 

in Asset classes, Investment Leave a comment

Leave a Comment