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The Super Asset Classes
Traditional View on Asset Classes
An asset class is not well defined in traditional wealth management models. They see the main asset classes as Local Equity, Local Fixed Income, Local Real Estate, Offshore Equity, Offshore Fixed Income, these mostly being listed, and a catchall bucket Alternative Assets, that can be listed or unlisted. The “justification” by proponents of this model is based on the assumption that these asset classes have low correlations with each other.
This explanation is not sufficient, for one could point out that a selection of value stocks listed on any Stock Exchange (i.e. NYSE, JSE, DAX etc.) has low correlations with growth stocks also listed on the Stock Exchange. However, one could hardly classify these two selections as separate asset classes, especially as stocks move from a value to a growth stock back to value through a cycle, with momentum sometimes adding to the return attribution.
Alternatively, if one is invested in a listed company on a stock exchange that delists and now becomes private equity, the company did not change, so why would one now change the asset class from listed equity to alternative assets? One might even have exposure to this company via different financial instruments, such as shares, bonds or even derivatives being priced off the company’s shares. We might allocate all these instruments to different asset classes, yet they all have exposure to the same fundamental drivers in the company.
Table of Contents
- Traditional View on Asset Classes
- Capital Assets
- Consumable or Transformable
- Store of Value Assets
- Human Capital
- Reference or Additional Material
Traditional View on Asset Classes
A better way would be to think of three super asset classes as suggested by Robert Greer (Greer, 1997):
- Capital assets
- Consumable/transformable assets
- Store of value assets
These three super asset classes have distinctive economic features that collectively cover almost the entire universe of investable asset classes. The lines might blur with some assets to form more hybrid assets, but the three definitions cover most cases.
We also include a fourth asset classes namely Human Capital, that is specific to each individual investor.
Table 1 - Impact of Human Capital as a Risky Asset on Total Wealth
|
Capital Assets |
Consume - |
Store of |
Human Capital |
|
|---|---|---|---|---|
|
Equities |
X |
|
|
|
|
Bonds |
X |
|
|
|
|
Real Estate |
X |
|
|
|
|
Commodities |
|
X |
|
|
|
Precious Metals |
|
X |
X |
|
|
Currency |
|
|
X |
|
|
Art |
|
|
X |
|
|
Labour |
X |
X |
X |
X |
Capital Assets
A company can issue both equity and bonds, the difference in the characteristics of these instruments being because of the capital structure, with bonds ranking ahead of equities, but with limited participation in the economic benefits the company generates. Ultimately, the basic method of valuing the asset will remain the same.
Consumable/Transformable Assets
The Consumable/Transformable super asset class can be defined as assets that can be consumed, transformed and have economic value, but do not generate an economic income stream.
These are your typical physical commodities such as soft commodities, energy, precious metals, and industrial metals.
You can consume corn, convert it to meat by feeding it into livestock, and convert it in cornflower to bake corn bread or even convert it into an energy commodity such as ethanol.
A single kernel or even an ear of corn cannot generate a stream of income, for this reason we disqualify it of being a capital asset. This lack of a stream of income makes it impossible to value the asset using net present value. These assets need to be valued based on the supply and demand characteristics of their market.
The supply and demand calculations need to be made on global rather than regional factors. A similar grade of wheat adjusted for transport, handling cost import/export tax will have a high correlation with other grain of similar grade around the globe. This is another distinction with Capital Assets.
Store of Value Assets
The third asset class does not provide an income stream, nor can it be consumed or transformed, yet it has value. The classic example is art – it may be beautiful to look at, but does not add any economic value in terms of the traditional view. Despite this, people will exchange something else of economic value for possession of the piece of art. In this sense it is a store of value. Another example is currency. Investors will hold United States Dollars (USD) rather than Euro’s if they perceive the USD to be a better store value. They can then at a later stage swap this currency for other assets like bonds, equities or commodities.
Human Capital
We define human capital as the present value of your future labour income and social benefits society entitle you to. When you work you are exchanging labour for a monetary reward. The monetary reward you earned is a dividend or an interest payment on your human capital. If you are fortunate enough to live in a country with a social security system, your human capital has another component. This component is any social security benefits the state entitles you to, such as old age pension, child grant, medicare etc.
Reference/Additional Material
What is an Asset Class, Anyway?
Robert J. Greer
The Journal of Portfolio Management Winter 1997, 23 (2) 86-91;
https://jpm.pm-research.com/content/23/2/86
