What is a Sub-Asset Class?

A sub-asset class is a sub-segment of a broad asset class that is broken down to provide more identification or more granular detail of the assets within the subclass. Sub-asset classes are grouped by common characteristics, also displaying characteristics of the broad asset class.

Stocks are an asset class, and investment trusts are an example of a sub-asset class. They trade similar to stocks, but have some different characteristics. Commodities compose an asset class, while metals and agricultural commodities each makeup separate sub-asset classes.

Understanding the Sub-Asset Class

Sub-asset classes are generally defined by certain characteristics that make them unique within the bigger universe of the asset class. They are most commonly used to break down broad market asset classes like equity, fixed income, and commodities.

Sub-asset classes can be an important aspect for style investing and standard investment management strategies, which rely on diversification and modern portfolio theory. Diversifying asset classes in a portfolio balances its exposure to risks and reduces the volatility of the overall portfolio. Sub-asset classes help to further identify areas where the portfolio can be diversified.

Buying a random bunch of stocks, for example, won't necessarily create a diversified portfolio. Buying stocks across different asset classes, sub-asset classes, industries, and sectors will create a more diversified portfolio.

Key Takeaways

  • A sub-asset class is a group of assets that share similar characteristics with each other, but also the broader asset class.
  • Looking down to the sub-asset level is important if looking to build a diversified portfolio.
  • Stocks, fixed income, and commodities are common asset classes that all have sub-asset classes within them.

Equity Sub-Asset Classes

Within the equity universe, numerous investments have unique characteristics that provide for sub-asset class categorization. Real estate investment trusts (REITs) and master limited partnerships (MLPs) are two examples. These investments trade alongside other stocks on the stock market, however, they have unique characteristics associated with their incorporation that define them as an equity sub-asset class.

Other equity features may also be used to define sub-asset classes. Capitalization allows for sub-asset classes such as large cap, mid cap or small cap. Equities may also be further delineated by characteristics such as growth, value, or blend.

Fixed Income

Within the fixed income universe, a number of sub-asset classes exist for investors. Cash, loans, and bonds are a few examples. Each has fixed income attributes with their own unique investment characteristics.

Fixed income sub-asset classes may also be grouped by duration and quality. Durations can be short, intermediate or long. Credit quality sub-asset classes for fixed income investments may also be defined by their credit rating, which is provided by a rating agency.

Commodities

Commodities offer a range of sub-asset classes that can include metals, oil and gas, as well as grains and other types of agricultural products. While these are all called commodities, these sub-asset classes are very different. Metals are mined, while agricultural commodities are grown or raised.

Example of Using Sub-Asset Classes in Investing

Sub-asset classes can be important for targeted investing or when seeking to build a diversified portfolio. By determining specific characteristics of sub-asset classes, investors can make focused investments across risk levels.

For example, a 60/40 asset allocation fund may define its strategy as investing 60% of assets in equity and 40% in debt. While this is a balanced portfolio, the investment managers still have a wide range of sub-asset class options they can choose from for each portion.

They may further decide to put 50% of their stock purchases into growth investments, and the other 50% into value investments. They may also stipulate that all stock investments must be in at least mid cap in size or bigger.

For the bonds component, they may decide to put 20% in cash or cash equivalents like certificates of deposit (CDs). They may put 35% in short-term commercial paper, 25% in government and municipal bonds, and the remaining 10% in high-grade corporate bonds.

These percentages could be broken down even further. For example, the 25% (of the 40% of the portfolio allocated to government and municipal debt) could be 10% long-term treasuries, 10% short-term treasuries, and 2.5% of both short-term and long-term municipal bonds.

Investors can determine their own ideal asset allocation strategy, or seek out the guidance of a financial advisor for help.