An asset is something which is valuable, something that is useful. In financial jargon, an asset is something that can produce revenue or income. Financial investments are assets, too. We invest money in financial assets in the hope of earning a return.
The return or growth comes in two forms, income and gains. These are two distinct types of earnings and one cannot be replaced by the other. When you invest in a financial asset, have a clear idea of where you expect your return to come from, is it income or gain?
Financial assets with income
Fixed return financial assets are where you can look forward to earning an income. Bank and corporate fixed deposits, corporate bonds, government small savings schemes, provident fund are all examples of assets which will give you a known or defined return.
This return is in the form of interest income. The payout of this income is also defined and you know exactly when to expect this income and what the amount will be. Usually, the income is specified as interest which is a percentage of the amount you invest.
No other gains should be sought from such fixed return investments. The drawback is that the income through interest may fall short in times of high inflation in the economy. While the certainty of return, as well as the income, are what makes these investments low risk, you must be aware of the quality of the issuer as well.
While you can expect some income from shares every year, gains from price change are not linear and you need to remain invested for a long time to see those benefits.
Assets with both income and gains
These are referred to as growth assets, the gain portion is what helps you build long term wealth. The income is what adds to your return and also helps you assess what could be a reasonable price for the asset. In the case of equity shares, income refers to dividends paid on a regular basis; income is more reliable and easier to quantify as compared to gains.
Gains refer to change in the price of shares which can vary on a daily basis. While you can expect some income from shares every year, gains from price change are not linear and you need to remain invested for a long time to see those benefits.
Similarly, you can earn regular income from real estate, through rentals. These are pre-contracted and defined, hence predictable. On the other hand, gains that you can make from selling a property at a price higher than what you bought it for are the gains you look forward to in the long run. Just like in the case of equity, gains from real estate are not linear and you need to remain invested for long periods. Rental yields also help in assessing the potential price you pay for a real estate asset.
Assets with only gains
There are other assets like gold, commodities and now new-age digital assets like cryptocurrencies where the return is only in the form of gains. Gains, as mentioned above, are nonlinear and volatile in the short run. At the same time with no income to help in assessing reasonable price, volatility can be sharper in the near term.
Such assets are considered riskier than the two above and should be invested in with extreme caution. You could assign a relatively smaller portion of your investment portfolio here rather than allocating large amounts to high risk.