Bonds vs Stocks

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Stocks and bonds are two of the most popular investment options, but they are fundamentally different and serve different purposes in an investment portfolio. While stocks are usually associated with higher growth potential and higher risk, bonds are known for their stable and predictable income. Understanding how each works, including their pros and cons and key differences can help you make smarter financial decisions and build a balanced strategy to achieve your financial goals.

What are Stocks?

Stocks, also known as shares or equities, represent part-ownership in a company. This implies the investor actually owns a small piece of that business/company, entitling them to proportional stakes in the profits or growth of the stock-issuing company.

Features/Characteristics:

• Has no maturity period; the ownership continues as long as shares are held
• Potential earnings from capital appreciation and in some stocks, dividends
• Stock prices can rise and fall significantly due to market or company related news or events
• Potential for higher returns if held for long term
• Ideal for those having higher risk appetite and seeking higher returns over long term
• Can be bought and sold easily on stock exchanges

Pros of Investing in Stocks

• Stocks usually have potential for higher returns as compared to other investment options if held for a long period
• Some stocks pay dividends, which acts as a cushion in case stock prices drop thereby, providing shareholders extra income or be used to buy more stocks
• Buying common shares gives investors an ownership stake in the company and voting rights on important matters such as electing board of directors.
• Equity shares can be easily bought and sold in the stock markets.

Cons of Investing in Stocks

• Prices of a company stock can rise and fall sharply, especially in the short-term, due to various factors such as company performance, market conditions, etc.
• There is always a risk of capital loss due to sudden fall in the stock prices and in extreme cases the loss can be significant
• The dividend payments are not fixed and are at the discretion of the company. So, during the periods of low profits or financial stress, companies may reduce or suspend dividend payments altogether.

What are Bonds?

A bond is a fixed investment, which government, companies and other entities issue to raise funds for financing their projects and other activities. When an investor purchases a bond, they loan money to the bond issuing company and in return receive interest at regular intervals. On the bond’s maturity date, the investor gets back the principal value of the bond.

Also Check: Corporate Bonds

Features/Characteristics:

• Are issued by central and state governments, municipality & entities
• Provides regular interest (coupon) payments at fixed or floating rate of interest
• Has a fixed maturity date at the end of which the principal amount invested is repaid to the investor
• Bond prices are sensitive to interest rate changes
• Potential for higher returns if held for long term
• Ideal for those seeking safety of principal & fixed regular income at lower risk
• Can be bought and sold in the secondary market

Pros of Investing in Bonds

• Bonds offer fixed interest payments at regular intervals, making them a stable and predictable source of income.
• They usually are less risky than investing in stocks, especially government bonds or high-quality (AAA-BBB rated) corporate bonds carry lower risk and preserve capital.
• If the investor holds their bond holdings till maturity and the bon issuer does not default, he/she will receive the principal amount back, making bonds suitable for capital protection
• Usually have potential for higher returns as compared to other fixed investment options such as fixed deposit, PPF, etc.
• Bondholders have higher claim priority than shareholders in case the company goes through liquidation or bankruptcy.
• Bonds can be easily bought and sold in the stock markets.

Also Know: How to Invest in Bonds

Cons of Investing in Bonds

• As compared to stocks, bonds usually offer lower returns in the long run.
• Prices of a company stock can rise and fall sharply, especially in the short-term, due to various factors such as company performance, market conditions, etc.
• There is always a risk, especially in case of low-rated bonds, that that the bond issuer may default on its interest payments or principal repayment

Bonds vs Stocks: Key Differences

Which is Better – Stocks or Bonds?

Between bonds and stocks which one would should you invest in would depends on your financial goals, time horizon and risk tolerance. Investing in stocks may be better for those who are investing for long-term goals (retirement, wealth building), have higher risk appetite and are seeking higher potential returns over long run. Investing in bonds may be better for those requiring a stable source of income, are closer to retirement, have low risk appetite or want to reduce portfolio risk.