Assets Explained
Stocks are financial assets, not real assets. Financial assets are paper assets that can be easily converted to cash. Real assets are tangible and therefore have intrinsic value. Because the definition of a financial asset, rather than that of a real asset, best describes stock, this is the category into which it falls.
An asset is something owned by an entity, such as an individual or business, that has value and can be used to meet debts and obligations. The total of an entity's assets, minus its debts, determines its net worth. Assets that are easily converted to cash are known as liquid assets. Those that cannot be converted to cash easily, such as real estate and plant equipment, are called physical assets.
Key Takeaways
- Stocks are financial assets, not real assets.
- A financial asset is a liquid asset that gets its value from a contractual right or ownership claim.
- Real assets are physical assets that have an intrinsic worth due to their substance and properties such as precious metals, commodities, real estate, land, equipment, and natural resources.
- Some financial assets that invest in or backed by real assets can blur the lines somewhat, but are still financial assets whose value depends on the prices of real assets.
Real Assets vs. Financial Assets
Another important distinction is between real assets and financial assets. If you were to draw a Venn diagram of real assets and physical assets, there would indeed be some significant overlap, as does that of financial assets and liquid assets.
Real assets are so named "real" because they can usually be seen and touched. They are most often tangible assets with physical properties. A company truck, a building owned by an entity, a piece of farm equipment; a house, these are all examples of real assets.
Financial assets, on the other hand, such as stocks or bonds, cannot be seen or touched, but they represent value to the entity that owns them. Unlike real assets, stocks and other financial assets can also be converted to cash quickly when needed, making them highly liquid. Ideally, companies desire a mix of real and financial assets, though the ideal breakdown between the two varies greatly by industry.
Special Considerations
Some financial assets invest in real assets. Take the example of a mutual fund or exchange traded fund (ETF) that invests in commodities such as gold or silver. These pooled investments hold hard assets but are themselves financial assets. It is in these types of assets that overlap and confusion over asset categorization can occur. ETFs, for example, can invest in companies that are involved in the use, sale or mining of real assets, or more directly linked ETFs can aim to track the price movement of a specific real asset or basket of real assets.
Physically backed commodity ETFs include some of the most popular ETFs in the world based on volumes, such as State Street's SPDR Gold Shares (GLD) and iShares Silver Trust (SLV). Both invest in precious metals and seek to mirror the performance of those metal. Technically speaking, though, these ETFs are financial assets, while the actual gold or silver bullion they own is the real asset.
Another example are real estate investment trusts (REITs), which invest in real estate properties, ranging from residential to commercial developments. Again, while these hold real assets, REITs themselves are financial assets - financial assets whose value depends on the underlying real assets.
