Tahoe-Truckee Market Beat: The major asset classes
Legendary investor Warren Buffett once said, “Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value.”
Buffett is also known as “the Oracle of Omaha” and has been a very successful value investor. So, what message was he trying to deliver with his famous quote above?
Essentially he was saying that cash or cash equivalents like money market funds, short term CDs and short term T-bills were not good long-term investments.
Most people know should know that. Cash equivalents don’t pay much return and won’t keep pace with inflation. They’re meant for liquidity and are good vehicles for savings accounts like your emergency fund.
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Basically, there are three major asset classes — stocks, bonds and cash equivalents.
Stocks can be further broken down into several categories, two of which are growth and value. Growth stocks can be fairly expensive, but should have good potential for rapid earnings growth in the future.
Value stocks are relatively inexpensive by common metrics such as price to earnings ratio, price to book value and price to free cash flow.
The size of a company is determined by the market cap or market capitalization, which is defined as the price of the shares times the number of shares outstanding.
Market cap is also used to further define stock asset classes. Stocks are typically divided into small cap, mid-cap and large cap, plus growth and value.
In addition to market cap and valuation, there are also categories for international stocks. The two primary categories for international stocks and emerging markets and foreign developed.
Foreign developed stocks are in countries like Europe, Asia and the Far East. Emerging markets are countries with smaller economies.
Bonds have the same international categories and can be further broken down into corporate and government issues. Two major categories for corporate bonds are investment grade and non-investment grade or high yield bonds.
Government bonds include bonds issued by the Federal government, like US Treasury bonds, which are considered to be the safest investment in the world.
Another type of government bonds are municipal bonds that are issued buy states and local municipalities and can be income tax free in many cases.
Long-term investors should diversify their holdings amongst the major asset classes and review their allocations periodically.
Kenneth Roberts is a Truckee-based Registered Investment Advisor. Information is at his blog at http://www.sellacalloption.com or 775-657-8065. The mention of securities should not be considered an offer to sell or solicitation to buy investments mentioned. Consult your investment professional to understand the risks and/or how the purchase or sale of these investments may be implemented to meet your investment goals. Past performance is no guarantee of future results.
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