It is important to know where your money goes when you invest and how much risk it contains. Since every investment belongs to an asset class, investors need to know the most basic types of asset classes and their characteristics.
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Asset classes are a type of financial instrument that possess similar characteristics and manifests similar behavior in the market. For example, all different kind of fixed-income investments forms an asset class as they exhibit similar features.
The main reason assets are diversified into different categories is to help investors easily diversify their investment portfolios. It helps investors understand the risk factor, taxations, return rates, liquidity and market volatility associated with any asset class. Investors often rely on the diversification of asset classes to maximize their return by investing a minimal amount.
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You can identify asset classes using several methods. An asset can be classified depending on their purpose for example, consumption assets like oil and natural gas or investment assets like shares and bonds.
There are several other ways you may categorize them for example, securities based on the markets like domestic securities, foreign or international investments.
Therefore now we are going to discuss the most popular asset classes and their unique characteristics and selling propositions.
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For diversification of your portfolio, you don’t have to certainly know about which asset belongs to which specific category. You just need to understand the basic concept of how these investment instruments work. This fact helps you in spreading your investments across several asset classes and thus balances the risk.
The assets are often inversely correlated to each other. For example, when equities are not performing well in the share market other asset classes like bonds, real estate, and commodities may not perform well. However, during a bear market stocks, other asset classes may perform exceptionally well and give investors above-average returns.
By diversifying you can safeguard your investments in one asset class by reducing their risk exposure. The risk factor associated with your investments can also be balanced by dividing your investments among various investment profiles. This practice is known as asset allocation.
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