Many investors simply divide their portfolio between stocks and bonds, with potentially a small cash portion. As you look through your portfolio, you may notice many different types of investments and investment vehicles. In addition to stocks and bonds, you could potentially be invested in mutual funds, exchange traded funds, otherwise known as ETFs, various alternative investments, or owning all or part of a business, the list is seemingly endless. Have you ever wondered what all of these investments are and what the difference is between them? Here’s our reference guide to the main types:
Cash & Cash Equivalents
Cash and cash equivalents, such as certificates of deposit (CD) or money markets are investments that are “as good as cash”. This might be a simple savings account. It might be a money market fund or CD. A cash investment is a short-term obligation, that provides a return in the form of interest payments. Cash investments generally offer a low return compared to other investments. They are also associated with very low levels of risk and are often FDIC-insured.
- Certificates of Deposit (CD): A CD is a savings certificate with a fixed maturity date and specified fixed interest rate that can be issued in any denomination aside from minimum investment requirements. A CD restricts access to the funds until the maturity date of the investment (here at Hightower we have access to the secondary market through our custodian, Fidelity, eliminating that restriction). CDs are generally issued by commercial banks and are insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per individual/institution.
- Money market: This is a very short-term security that usually has a maturity of less than six months. They are very liquid investments that pay variable interest rates. Money market accounts generally have a slightly higher interest rate return than a cash savings account. Examples of money market instruments include commercial paper and Treasury bills. There are also municipal money market funds that invest in municipal securities with income that is normally free from federal income tax, federal alternative minimum tax (AMT), and/or state income tax.
Simply put, a type of investment that gives you partial ownership of a publicly traded company. You are a shareholder. Shareholders have a claim on the company’s assets in the event of liquidation, but do not own the assets.
There are two types of stock:
- Common stock – shareholders have a percentage of ownership, have the right to vote on issues affecting the company and may receive dividends.
- Preferred stock – shareholders are generally entitled to dividends at specified intervals and in predetermined amounts, they also don’t typically have voting rights. They do receive preference in terms of the payment, assets and any dividends over common shareholders.
Bonds are debt instruments whereby an investor is effectively loaning money to a company, agency or governmental entity, such as a city, state or nation, in exchange for periodic interest payments plus the return of the bond’s face amount when the bond matures. Bonds are issued for a set period, during which interest payments are made to the bondholder. The amount of these payments depends on the interest rate established by the issuer of the bond when the bond is issued. This is called a coupon rate, which can be fixed or variable.
A typical corporate bond’s interest is fully taxable, but interest on municipal bonds is exempt from federal taxes and may be exempt from state and local taxes for residents of the issuing state. Interest on Treasuries are taxed at the federal level only.
Bonds are considered a more stable investment compared to stocks because they usually provide a steady flow of income. But because they’re more stable, their long-term return probably will be less when compared to stocks. Bonds, however, can sometimes outperform a stock’s rate of return.
Keep in mind that bonds are subject to several investment risks including credit risk, repayment risk and interest rate risk. A bond’s value can rise and fall based on a number of factors, the most important being the direction of interest rates. Bond prices move inversely with the direction of interest rates.
An investment vehicle that allows you to invest your money in a professionally-managed portfolio of assets that, depending on the specific fund, could contain a variety of stocks, bonds, or other investments as stated in the fund’s prospectus. Mutual funds are valued at the end of trading day and any transactions to buy or sell shares are executed after the market close as well.
Mutual funds can be actively managed where the manager actively selects the stocks, bonds or other investments held by the fund. Other mutual funds can passively track stock or bond market indexes such as the S&P 500, the Barclay’s Aggregate Bond Index and many others.
Mutual funds can make distributions in the form of dividends, interest and capital gains. These distributions will be taxable if held in a non-retirement account. Selling a mutual fund can result in a gain or loss on the investment, just as with individual stocks or bonds.
Exchange Traded Fund (ETF)
An ETF, or exchange-traded fund, is a marketable security that often tracks a stock index, a commodity, bonds or stocks, or a basket of assets. When purchasing an ETF, you are purchasing shares of the overall fund rather than actual shares of the individual underlying investments. Those shares trade like stocks on a stock exchange during the trading day. Unlike mutual funds which are valued at the end of each trading day, ETFs are valued constantly while the markets are open.
Beyond stocks, bonds, mutual funds and ETFs, there are many other ways to invest. One of which is called alternative investments. Below are several examples:
Real estate investments can be made by buying a commercial or residential property directly. Real estate investment trusts (REITs) pool investor’s money and purchase properties. REITs are traded like stocks. There are mutual funds and ETFs that invest in REITs as well. There are also private real estate funds that offer shares to investors as a single or pool of properties.
Hedge funds and private equity also fall into the category of alternative investments, although they are only open to those who meet the income and net worth requirements of being an accredited investor or qualified purchaser.
Hedge funds are alternative investments using pooled funds that employ numerous different strategies to earn active return, or alpha, for their investors. Hedge funds may be aggressively managed or make use of derivatives and leverage in both domestic and international markets with the goal of generating high returns (either in an absolute sense or over a specified benchmark). Hedge funds may invest almost anywhere in the investable universe. One aspect that has set the hedge fund industry apart is the fact that hedge funds face less regulation than mutual funds and other investment vehicles.
Private equity allows companies to raise capital without going public or be listed on a public exchange. Private equity is composed of funds and investors that directly invest in private companies, or that engage in buyouts of public companies, resulting in the delisting of public equity.
A private equity fund has Limited Partners (LP), who typically own 99% of shares in a fund and have limited liability, and General Partners (GP), who own 1% of shares and have full liability. The latter are also responsible for executing and operating the investment.
In recent years, alternative strategies have been introduced in mutual fund and ETF formats, allowing for lower minimum investments and greater liquidity for investors. These vehicles are known as liquid alternatives.
This list consists of the main investment types and vehicles that you’ll commonly see in portfolios. There are plenty more sub-categories of the aforementioned list. In my next blog we will discuss key investment terms and styles. As always, if you have any questions on anything in your portfolio or within the investment universe, please reach out.
Richard Flahive – Private Wealth Advisor and Director of Research & Planning – HighTower Westchester
914.825.8639 – firstname.lastname@example.org
Hightower Westchester is registered with Hightower Securities, LLC, member FINRA and SIPC, and with Hightower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities, LLC; advisory services are offered through Hightower Advisors, LLC.
This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors.
All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. The team and Hightower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice.
This document was created for informational purposes only; the opinions expressed are solely those of the team and do not represent those of Hightower Advisors, LLC, or any of its affiliates.