It can be expected that anyone new to financial planning will wonder what investment types are available to them. There are a few major types of investment classes available to everyday investors. Understanding the differences between these asset classes is fundamental to developing an customized and effective investment strategy.
Fixed Income Investments
Investments that have a fixed income schedule are considered fixed income securities. More often than not, when financial planners discuss fixed income investments they are referring to debt instruments such as bonds. However, this class of investments also includes savings accounts, treasury bills and certificates of deposit.
Fixed income investors are usually rewarded through interest payments or, in the case of treasury notes and bonds, an appreciation of the asset’s value as well. However some fixed income investments, like zero coupon bonds sell at a discount to their face value. At maturity the investor, nets the difference between what was paid and the face value of the bond.
When you buy a share of common stock in an company, you have just become part owner of that business (thus you have equity in the company). Investors in common stock can profit three ways. First investors can buy the stock low and sell high, keeping the difference. Second, some stocks distribute income to shareholders through dividends. Finally, savvy investors can “short” a stock by selling high and buying back low, netting the difference.
Exchange Traded and Mutual Funds
Very popular types of investments include mutual funds and ETFs. There are thousands of different types of funds in the market. Funds are usually comprised of different assets and are based on a theme. Fund themes can include index matching like the S&P 500 or Dow 30. In addition funds also can also be sector or company size specific.
Mutual fund companies pool their investor’s cash and make asset purchases on the investor's behalf. Investors seeking hassle free investment management usually find mutual funds serve their needs. However fund investors looking for a “do-it-yourself” solution, like ETFs for their flexibility.
Investments such as options, futures, warrants and swaps are considered derivatives. This is due to the value of the investment being derived from the value of the underlying asset. In example of this relationship, the value of an stock option depends on the value of the stock the option is based on as well as additional factors such as time and volatility.
Derivative investments range from being relatively simple to extremely complex. As with all investments, its wise to conduct good research before placing any derivative in your investment strategy or portfolio.
There are four major types of investments. They include fixed income, equity, funds and derivatives. Understanding what these investment types are will help you develop your investment strategy and build an effective portfolio.