Here at Smart Investor we always go on about the safety of a portfolio, but when we talk about a portfolio it is not just about having a portfolio of stocks, it also means investing in a number of different asset classes, such that when one asset class is suffering from a market correction, the other asset classes provide some stability.

The four most common asset classes are public equities, private companies, bonds, and real estate. Three additional classes that are also used by some investors include commodities, art and collectables.

Savvy investors tend to be invested in at least two and often three different asset classes.

Public equities
Readers of Smart Investor are no doubt very familiar with public equities. The key features of public equities are that they generally:
deliver high return,
are liquid,
require little management, and
are easy to gather information about.

Their disadvantage is that they are volatile and can swing in price significantly.

There are numerous strategies for investing in public equities (and some of them are discussed in our schools article this month.) Though they fall broadly into two, value type strategies (where investors buy companies at prices below their intrinsic value) and momentum strategies were investors buy companies whose prices are increasing or expected to increase very shortly with the hope to sell them at higher prices (regardless of the underlying value.)

Private company investments
Investing in private companies requires a higher degree of skill and effort than investing in public companies, investors need to consult with lawyers (as the documents are not standardised and often require negotiation,) the minimum number of shares that can be purchased are also normally much larger than for public equities. Of course they are also less liquid and a broker or investment banker is often required to assist in buying or selling them (though some stock brokers do also provide clients with opportunities to invest in private companies.) The information publicly available about the companies may also be very limited and difficult to get hold of.

Despite these limitations, investing in private companies is often very profitable and can be less risky (even though there are many who will argue about that  we would defer to Kayosaki author of Rich Dad who says it is not the investment that is risky it is the investor.)

Private companies are often purchased at much lower prices than public companies and many of them subsequently go public at much higher valuations. In addition, private companies tend to pay out more of their earnings as dividend enabling their shareholders to earn high income from their investments and not have to depend on capital appreciation. Dividend yields of over 10% are more the norm for private companies than the exception (as is the case with public companies.)

The other benefit of having some of your assets in private companies is that the valuations are not as volatile and dependent on the mood of the stock market, so you are shielded from big swings in value (which often gives investors in public companies sleepless nights or makes them sell at an inappropriate time.)


Bonds
Bonds are a very important part of any investor's portfolio. Again their price is uncorrelated to the prices of equities and their relatively low risk increases stability of the overall portfolio.
There are generally two types, government bonds and corporate bonds.

Federal Government bonds are the least risky of all asset types in that there is no reason for Federal Government to ever default. They have legal authority to print currency so even if the government is poorly managed, they are still able to meet all their domestic currency obligations.

Yields on Federal Government bonds are quite attractive, up to 17% for seven year bonds.

    30 day    
    90 day    
    1 year    
    3 year    
    5 year    
    7 year

Some of the state governments also issue bonds including Delta State Government and Lagos State Government. These bonds are of course not as safe as Federal Government Bonds.

Corporate Bonds tend to provide higher yields than government bonds. However, there is the increased risk that the corporation will not be able to honour its obligations when due. Corporate bonds come in varying qualities depending on the risk of default. Rating agencies such as Fitch, S&P and Moody's in the US and Augusto & Co. here in Nigeria, rate the quality of bonds, enabling investors to easily pick bonds that fit their risk profiles. Different agencies have different risk ratings (see box) ranging from Aaa which is the highest rating to D where the bond is already in default.

AAA bonds are the highest quality available and are issued by companies in the highest conceivable credit quality and qualify for the best interest rates from banks (prime rate.) Bonds rated between AAA and BBB are perceived to be investment grade

Bonds rated BB and below are perceived to be high risk, speculative bonds or 'junk bonds.' That said, many investors who have done careful research are able to make excellent returns investing in high risk bonds. Higher risk bonds generally provide a higher yield.

See Table 1
If you want to invest in corporate or government bonds many leading stockbrokers (such as BGL securities) and some of the banks are able to help.

Real Estate
Real estate is an asset class that most investors are familiar with, we at Smart Investor believe that it is an essential part of any investment portfolio. Investing in real estate requires more management effort than investing in stocks or bonds. It requires the use of surveyors and lawyers in addition to maintenance, finding tenants and collecting rent. Indeed investing in real estate can be as complex as running a business.

Real estate is also particularly illiquid and has very high transaction costs. Most real estate investments are done on a much longer time horizon than other types of investments.

However, the efforts are worth the return and in general, real estate delivers higher returns than public equities and bonds without any significant increase in risk.

The key real estate classes are residential (which is by far the largest,) office, retail and industrial. Residential delivers the lowest risk (finding tenants should generally be quite easy, there are always people looking for property in both good and bad economic conditions.) Office, retail and Industrial property can be more adversely affected during an economic downturn. They also can have longer vacancy periods when tenants move out. As a result, investors normally demand higher yield.

Because real estate investments are generally high value, smaller investors often pool funds together in groups of three or more in order to make investments. This partnership or club type approach can be very rewarding when the right people come together and it is properly structured.

At Smart Investor we advise real estate investors to start in their own neighbourhood, either around where they live or work. They are more likely to be familiar with the area and the types of tenants, it is also much easier to keep an eye on things, since the investment will be close to home.

Commodities
Unfortunately the commodities markets are quite poorly developed in Nigeria and opportunities locally can be limited. Overseas, most countries have booming commodities markets with hundreds of commodities being actively traded.

Key product categories are:

Agricultural products, including Wheat, Corn, Rice, Cotton, Orange Juice, Live Hogs (pigs), Cattle, Oats, Barley, Soybeans, Sugar and hundreds of other items.

Precious metals, including Gold, Silver, Platinum and many others. Gold is one area of commodities investing that is quite accessible in Nigeria. Of course its added benefit is that it can be worn as jewellery even when you are waiting for its price to appreciate.

Base metals including, Copper, Aluminium, Nickel, Lead, Tin, Zinc and many other metals
Energy  Crude oil, heating oil, petroleum motor spirits, natural gas, uranium, and other energy related products.
Foreign exchange (we looked at foreign exchange in detail in last month's Smart Investor)  literally hundreds of currencies are being traded daily.
Interest rates

The commodities market is indeed vast and very liquid with over a trillion dollars of turnover a day.

Commodities are traded using futures contracts, which are standardised contracts for the purchase and sale of a specific amount of a commodity for delivery at a specific port on a specific date. Most investors however sell the contracts ahead of physical delivery.

One of the attractive (and risky) things about commodities is that buyers are not required to pay for their orders until delivery, as a result when buying a contract buyers only have to place a margin deposit with their broker (typically between 2% and 5% of the contract value.) As a result many investors apply significant leverage to their commodities investments resulting in large gains (or large losses) if there is a change in price.


Art
Investing in art is often perceived to be the preserve of the rich, sometimes it is even described as an indulgence. In one sense, as an asset class that delivers no yield and has no industrial use value the argument is not without its merits. However, art has over the years delivered excellent appreciation.

The market can be broadly divided into three; deceased artists, living masters and upcoming artists.

The works of deceased artists of course are limited in volume and tend to deliver steady appreciation over the years.  Deceased artists include: Ben Enwonwu, Rufus Ogundele and Akinola Lasekan.

The works of living masters tend to be well recognised, they have a stable market and show stable appreciation, even though the artist is likely to be adding to supply over time. However, they tend to appreciate much faster as the artist ages and passes on. Living masters include: Yusuf Grillo, Bruce Onobrapekya, Kolade Oshinowo,  Uche okeke, Jimoh Ibraimoh, Bisi Fakeye, Twins 77 and Sussane Wenger.

Upcoming artists tend to be the most volatile part of the market and the most difficult to play. Many upcoming artists enjoy a period of fame which later fades (along with the prices of his or her works.) So from an investment point of view, picking artists whose work will appreciate over time can be quite difficult. However, if an upcoming artist later becomes acknowledged as a master, the increase in the value of the work can be dramatic.

Investors in art should have a good art dealer and familiarise themselves with the artists and the works.
Collectables
Collectables include anything that people collect (normally for sentimental reasons) collectables include classic cars, furniture, stamps, coins, old currencies, rare books, jewellery, even old toys and records and videos are collected by some.

Collectables tend to be more popular in developed economies than here in Nigeria. Again the value of collectables tends to appreciate based on rarity, popularity, and of course quality.
Again we would advise anybody who participates to be very knowledgeable in the area in which they collect.


In putting together a portfolio, an investor would typically decide their attitude to volatility, and their need for either asset growth or for income, such that an investor would be looking for high growth low volatility, high growth high volatility, or high income. Using the four main asset classes-public equities, private companies, real estate and bonds-an investor's portfolio might look like any of the following

Balanced Growth  each asset class representing 25% of the portfolio

High Growth, low volatility –
overweight in the less volatile asset classes such as real estate and private companies.

Income – overweight in real estate and high dividend private companies.

See pie chart 1, 2, 3.