Many people are disappointed with the market; they see it as unreliable (which it is) and are unsure what to do. Professionals tell them to keep investing in the market, but they keep losing. They tell you to diversify, but that just hedges your losses and minimizes your gains. What they don't tell you is how you're meant to diversify.

Most people think a well diversified portfolio would contain mutual funds for large-cap growth and value, mid-cap growth and value, small-cap growth and value, hedged with a few bonds and some funds in a money market account. I hate to break the news to you, but that isn't diversified. Except for the money market funds, all you are invested in are paper assets. To truly diversify, you should be invested in the three different asset classes: Paper Assets, Real Estate and Businesses.

Paper Assets
These are the most popular form of investment because they are the easiest. You can invest however much money you want, its an easy process (call up your broker and tell him to buy it) and people think it is the best form of investment taxwise (maximum amount of taxation for capital gains is 15%, except for REITs). While all these are true except the latter, people fail to realise the con's of investing in paper assets. I'll List the pro's and con's:
Pro's

• Easy to invest any amount of money you like. You can invest $10 or $10 million in the stock market: there's no preset limit (although you might not want to do $10 trades because commissions would probably be more than the trade itself). This makes it easy for anyone in any walk of life to invest some money in the market.
• Easy to monitor the value of your investment. This can be considered either a pro or a con because focusing too much time on the current value can cause emotions to come into play and you might make a bad investment move. I consider it a pro because when it is time to analyze how your investment is doing, the information is readily accessible.

Con's

• No Control. When you invest in paper assets, you have no control over that in which you are investing. If the stock is performing poorly, there's not much you can do to improve that investment.
• Too much information. With the huge amounts of information available nowadays, you would think people would be able to make better investment decisions, right? Wrong. People ignore the important information - a businesses financial statements, how the company operates, what their plans are for the future - and take the trivial information about "what stock is hot" on the radio or on TV. If you want to succeed in investing in paper assets, do your homework. It's just like any other investment.
• Too volitile. While all investments can be a little volitile, nothing comes close to the volitility of the stock market. Investing seems like a guessing game; you don't know what the market will look like in 5 minutes, much less a year.
  

Real Estate
Investing in real estate can be a challenge. People seem to think you need to buy properties with 100% down to invest - that simply isn't true. One of the greatest powers in real estate is the power of leverage. Leverage is getting more for less, or in the case of real estate, getting control for less monetary investment.

Here's a simple example. Let's say you have $100,000 to invest (keep in mind, you don't need this kind of money to invest in real estate, it just gives us a good, round number to work with). You could buy a $100,000 home and rent it for $1000/month, giving you $12,000/year and a 12% ROI (not including expenses like taxes, maintenance...). OR you could buy 10 $100,000 houses, with $10K down on each and a $90K mortgage ($700/month). If you rent it at the same $1,000/month for each house, you get $300/month/house, totaling $3,000/month or $36,000/year - a 36% ROI (in case you're wondering, ROI is Return on Investment). Eventhough you had 10% equity of the 10 houses, you still retained control and were able to leverage your money - getting a hire ROI. And over time you will build equity in all houses. If you need money for another investment, you can simply take it out of the equity of one of these houses. Anyway, let's get to the pro's and c on's.
Pro's

• Easier to leverage your money. You don't need to keep all your money in a single investment, you can profit while only having part ownership (using a mortgage). You can even take out the equity you initially put in and use it on another investment later - getting your initial investment back AND keeping the monthly income.
• More reliable than the stock market. There is a reason you are only allowed to buy a maximum of 50% on margin (have the broker buy it for you and you pay him back later, like the mortgage for real estate). It's because the stock market is much less reliable than real estate. The value of homes has continually gone up for the past 100 years - the stock market might have gone up on average, but there were huge ups and downs in there. Have you ever heard of a bank giving you a loan to buy stock? Of course not, they know that there is a good chance it will go down in value and you won't be able to pay it back. Real estate is the most reliable investment possible.
• Most tax efficient. Those who thought the 15% capital gains made stocks so good obviously haven't heard of "1031". 1031 is the tax code that allows you to sell a property and, if you use it to buy a more expensive property within the period of 6 months, not pay ANY taxes on the sale, AT ALL. Not only that, but there is something called "phantom income." Phantom income is depreciation; it cancels out your income, tax-wise. If you made $10,000 in rental income that year, and depreciated the property $10,000, the government sees you as breaking even - so you don't pay any taxes on that income. How cool is that? You could earn TAX-FREE income for 10 years while you depreciate the property, then when its totally depreciated, sell it and 1031 the money into a different property and start all over again. And if that wasn't great enough, when you sell it it will be worth MUCH more than what you bought it for, due to appretiation.

Con's

• Requires more work than paper assets. There is a lot more paperwork involved in working with real estate. So expect some attorney fees (or you could be lucky enough to have an attorney in your family). And after you have it, you have things like maintenance, taxes, property management and making sure the tenet pays to worry about. I highly suggest having a property management company manage it for you.
  
• Can be more difficult to find the right investment. In "Real Estate Riches" by Dolf de Roos, he gives quite a good principle to use when looking for investment properties. He calls it the 100:10:3:1 Rule. What this rule says is that if you look at 100 properties, put offers in on 10, and try to arrange financing on 3, you may end up buying 1. While this might look disheartening, don't worry. After a while you will get good at it and enjoy looking at the properties. What would you rather do, look at 100 propertied in a month or work a 9-5 job for a month? It's up to you.
• Can cause problems is you are overly-leveraged. What happens if you lose a tenet and the mortgage has to be paid? You have to pay it. In the 1990's real estate market decline, Donald Trump was over-leveraged and he ended up being $9.2 billion in debt. Although he was able to recover, I don't suggest over-leveraging.

Businesses
Building businesses are by far the best wealth-generation tools. However, they are also the most time-intensive. Two of the best secrets to developing a successful business is develop systems and leverage your time (have employees do the work in the business and you focus on working on the business). Here are just a few of the pro's and con's:
Pro's

• Infinite income possibility. When you work for a company and get paid $X/hour or $X/year, the only way you can earn more money is to work more. If you own a business, you make money when OTHER people do work. That can lead to unlimited income potential.
• Very tax-efficient. The tax laws for businesses are better than those for individuals.
  
• You can do whatever you want. This might not be the biggest reason for starting your own business, but it is an important one. You don't have a boss telling you what to do. You make all the decisions. I once heard someone say he started his own business so he wouldn't work 9-5 - now he works 8-6. You set your hours; you determine how to best run the business; success depends on you.

Con's

• Labor Intensive. There is a lot of work in starting your own business, and most of it isn't related to the skills you offer. If you are a plumber and you want to work for yourself, there's a lot you need to know other than just plumbing.
  
• 9 out of 10 businesses fail. Plan on making 10, and when one succeeds, celebrate.
• It's not for everyone. Not everyone is an entrepreneur, wanting to start his own business and reach financial freedom. Some prefer trivial jobs that pay the bills so that they can do whatever they like on the weekends, not worrying about work. If you aren't dedicated to succeeding, don't bother starting your own business.

I've summed up most of the pro's and con's of all three investment types. Stocks are the easiest but also the most volitile and hardest to control. I personally prefer real estate, but I am invested in all three types of assets. So next time someone tells you they are diversified, ask them how much real estate and businesses they own.