Table of contents
There are endless opportunities for trading and investment and sometimes the choice can be daunting. The majority of asset classes, or asset types, can be broken down into the following categories:
- Stocks and Shares
- Foreign Exchange
- Bonds and Interest Rates
All of the categories above can be openly traded and are highly regulated. With the exception of foreign exchange, all categories are traded on an exchange. For example, the majority of US Stocks (by value) are traded on the NYSE (New York Stock Exchange) and NASDAQ exchanges.
Stocks and Shares
Stocks and shares are the best known of all asset types. Some companies issue shares to raise capital. These issued shares represent a proportion of the company, so when an investor buys shares they therefore own a proportion of the company. With ownership you usually gain the right to vote at shareholder meetings and receive dividends (if there are any).
According to the World Bank, approximately $60 trillion (US$) of shares were traded globally in 2019.
What is the difference between stocks and shares?
Both terms are used interchangeably to refer to equities and denote ownership in a public company.
The main difference occurs when each are used in context. For example, if I said “I own 50 shares”, you may reply, “What company are the shares for?”. Or, if I said “I want to buy 50 stocks”, you would think that I am buying shares in 50 different companies.
Foreign exchange, sometimes referred to as Forex or FX, is by far the largest of all asset types that are traded globally. Foreign exchange is not just required when we travel abroad but used in the majority of global transactions. For example, a company in the US wanting to buy products from Germany will need to convert their $ into € in order to complete the transaction.
As of April 2019, over $6 trillion of foreign exchange was traded every day. It therefore takes just 10 days of foreign exchange activity to surpass a whole years worth of global share trading.
Commodities are the origin of modern trading. Some say that the first commodities were traded around 4500-4000 BC.
What are commodities?
My definition of a commodity is something that can be grown, reared or mined. They are most often used as inputs to the production of other goods and services. Investors and traders can buy and sell commodities directly in the spot (cash) market, or through derivatives, such as futures and options.
Bonds and Interest Rates
A Bond is basically a loan. A government or corporation can issue a bond when it requires money. For example, the UK issues a bond worth £1 billion which initially pays 2% per annum and matures in 10 years. This bond would be broken up into 1 million individual bonds of £1000 each. An investor can then purchase these bonds for a fixed income of 2% and will receive £1000 for each bond they own in 10 years time.
They become a highly traded asset because for the duration of the bond the circumstances change and therefore the price of the bond may rise or fall. This in turn affects the yield.
Interest Rates typically refer to rates set be Central Banks. For example, the Fed Funds 30 day rate refers to the US, 1 month and 3 month LIBOR refer to the UK.
These become highly traded assets for similar reasons to bonds when circumstances change and that causes expectations of a change in the interest rate.
Indices allow a group of different assets, usually stocks and shares, to be represented by a single number. For example, the S&P 500 is an index that covers 500 US companies. A movement in the share price of these companies affects the value of the S&P 500. The more valuable a company is will affect how much impact it has on the index.
Most countries have their own indices and these are traded on various exchanges. They allow you to trade a much broader selection of assets with a higher level of diversification when compared to an individual asset.
What is an ETF?
An ETF is an Exchange Traded Fund. As the name suggests they are traded on an exchange just like stocks and shares. Each ETF has a theme and is comprised of multiple assets that can be of different types (shares, bonds, commodities). Unlike an index, the value of an ETF does not automatically change due to a change in the price of comprised assets. Instead it changes when the ETF is bought or sold.
For example, the Technology ETF contains Microsoft, Apple, Intel, Cisco and Oracle, to name just a few.
An ETF can also pay dividends as they contain real assets.
ETF vs Mutual Funds
What is the difference between an ETF and a mutual fund?
There are very few differences in the content of each fund type. The main differences occur in how they are managed and where they are traded.
An ETF is traded on an exchange much like normal shares. Mutual funds only allow transactions once per day and tend to have higher commission costs. Mutual funds can be actively managed by a dedicated fund manager.
Futures and Options
There are 2 other categories of asset that need a specific mention as they offer great opportunities for trading.
What is the difference between futures and options?
- a financial contract obligating the buyer to purchase an asset, or the seller to sell an asset and have a predetermined future date and price.
- give a buyer the right, but not the obligation, to buy or sell the underlying asset and also have a predetermined future date and price.
Futures and options are both forms of derivatives. This simply means that they are derived from another asset. For example, I could buy an Option on Amazon stock, or a Futures contract on Gold.
The last category to mention is Cryptocurrency. These are partially regulated in some countries and banned in others. This is the primary reason that Trading AtoZ shall not cover cryptocurrency, although many of the topics and techniques covered on this website could also be applied to the asset type.
What is a cryptocurrency?
A cryptocurrency is a digital currency that is secured by cryptography. This makes them almost impossible to counterfeit, at least for now. Many cryptocurrencies are based on blockchain technology which is a distributed ledger and enforced by a disparate network of computers. A key feature of cryptocurrencies is they are generally not issued by a central authority, meaning they are less prone to government interference or manipulation.