Jonathan A. Dieguez

First, allow me to say congratulations on taking your personal finances into your own hands. It is one of the toughest and scariest, yet rewarding decisions an individual can make. You are about to venture on an incredible, life-long journey filled with limitless possibilities. However, make sure you are properly prepared, or else the outcome may be devastating.

The main purpose of this article is to serve as a quick checklist for preparing, creating and structuring your future investment decisions. First, there are a variety of asset classes to invest in. Equities, Fixed Income, Commodities, and Real Estate are the primary investment classes and also the focal point of this piece.

Equities (stocks) and fixed-income (bonds) are financial instruments for investors to obtain a return and for companies to raise capital. Put very simply, stocks offer an ownership stake in the company and bonds are analogous to loans made to the company. Stocks of a company are offered at the time of an IPO (Initial Public Offering) or future equity sales. The company offers investors an ownership stake by selling stocks. Stocks can be either common stock or preferred stock. The value of stocks corresponds to the value of the company and therefore, stock price fluctuates depending upon how the market values the company.

In contrast, bonds are loans offered at a fixed interest rate. When a company believes that it can raise capital cheaper by borrowing money from banks, institutional investors or individuals, may choose to offer interest-paying corporate bonds. With bonds, an investor is promised a fixed return. While bonds are “safer” than stocks because of lower volatility, it should be noted that there is always a chance that a company will be unable to repay bond-holders. In that sense, bonds are not “risk-free”. They are also more sensitive to interest rate fluctuations when compared to the equity asset class.

By definition, a commodity is a marketable item (either a good or service) produced to satisfy the wants or needs of the general public.  One of the characteristics of a commodity good is that its price is determined as a function of its market as a whole. Well-established physical commodities have actively traded spot (current) and derivative (future) markets. Basic resources and agricultural products such as crude oil, coal, salt, sugar, tea, coffee beans, soybeans, aluminum, copper, rice, wheat, gold, silver, and platinum are all examples of actively traded commodities.

Real estate is an “alternative” investment asset class which has received a lot of attention from investors over the past decade or so. There are a few ways to invest in real estate; first you can make a direct investment in real estate by finding a piece of property you like, getting a mortgage from a bank, analyze potential rental income or resale price, and go to closing. In my opinion, direct investments in real estate can have the highest payoff, but they also carry the highest level of risk. A second option is to put your money in one or more publicly traded REITs (Real Estate Investment trust). The REIT managers will invest your money in various properties that they deem appropriate and also manage the properties, take care of all the expenses, and look for appropriate times to sell the properties at a profit. REITs pay out around 90% of the profits they earn every year in the form of a dividend ranging from 3.5 % to 5.5 %.

Now that you have a better idea of the asset classes available, allow me to decipher which strategies works best for particular scenarios. Simply splitting your equity holdings between U.S. large-cap, U.S. small-cap, developed international markets, and emerging market stocks gives great diversification benefits however equities are considered a more volatile asset class due to sensitivity in interest rate fluctuations and economic uncertainty. 

Bonds provide both income and return on capital. Diversification can be achieved by holding a variety of U.S. government, corporate and foreign bonds. If you are worried about inflation, shorten the duration (maturity) of your holdings, which will reduce the sensitivity of the portfolio to interest rate changes. In other words, look to purchase 6 month treasury bills or 2 year notes vs. 30 year bonds.

Investing in Commodities, such as precious metals, energy, and agricultural goods, provide a hedge against inflation and also lowers the volatility of a portfolio holding only stocks. Futures contracts are used to invest in commodities, however, fair warning; these types of derivatives add additional levels of risk and complication and should only be brokered through your investment advisor.

Real estate provides a stream of income as well as property ownership. Keep in mind that if you own a house, you are already invested in residential real estate.  Although sensitive to interest rate changes, real estate is more correlated with stocks than bonds. Consider the numerous benefits of real estate – fairly predictable income (rent), tax benefits (depreciation or deduction of mortgage interest), and long-term appreciation and stability – with the current economic climate – interest rates near 30-year lows , US economy growing a measly 2% per year, and a faltering global economy – it is no wonder why more and more investors have turned to real estate for higher returns. So much so that housing now accounts for 18% of the US gross domestic product.

In general, real estate is cheap when demand is down, and demand is down when the economy is weak. Not only does the weak economy make real estate less expensive, but it also results in lower interest rates. Locking in a low rate mortgage loan would help keep the costs down and make the property more affordable until it’s time to sell. Real estate generally goes up in value when inflation begins to make itself known. So, depending on your economic outlook for the next few years, now might be a good time to invest in real estate.

I hope that what I have shared with you has been of great value. These observations and opinions are my own and stem from what I have learned and experienced over nine years by way of educational literature, private meet-up groups, numerous networking events, and, by far the most crucial and valuable means, trial and error.  Still there is so much to discuss and write considering that this topic, in itself, serves as the basis for three hundred page bibles! At the very least, herein lies the grounds and basic framework for preparing to invest and manage your own finances.