Over the years, there have been a series of arguments amongst investment experts about comparisons between stock and bond. For instance, while there are those who believe that bond investment comes with lower risks as compared to stock investment, others believe otherwise. A subject matter of this nature has succeeded in confusing lots of inexperienced investors. Most of them don’t even know where to put their hard-earned money for higher returns in the future.
Here is the truth
High quality bond investments come with lower risks as compared to stock investment. In case you are still doubting this statement for one reason or another, ensure to read the details of this post from start to finish. It will be revealing some of the reasons why bonds of very high quality are characterized by lower risks.
The major aim of this post is to help you make smart investment decisions that will yield the expected returns. It will show you why bonds will prove to be much safer as compared to stock investments, which are known for their risk. In case you have been looking for which investment option to choose between stock and bond, the facts below will definitely prove helpful in lots of regards.
What is a bond?
Before delving into the main details of this post, it is important to explain in clear details the meaning of bond. This will help you have an in-depth understanding of the subject under discussion.
A bond is an income instrument which represents a loan that has been made to a borrower by an investor. It is a tool or instrument acting as proof that its issuer is owing the holder some amount of money which is expected to be paid at an agreed period of time. Whenever a business wants to raise money, it will devise a means of issuing bonds to members of the public.
See bonds as loans that have to be serviced at an agreed period of time in the form of interest. After some time, the principal amount will be paid in full. It should be noted that not only businesses can issue bonds to members of the public or potential investors. Instead, the government and other agencies/organizations can also issue bonds.
Whenever you buy bonds from a company or business, you have only loaned such organization funds which will attract interests over a period of time. You are not a shareholder who makes decisions for the day-to-day running of the company affairs.
Why bonds are better than stock investments
Below are some of the reasons why bonds seem to be a much better investment option.
High level of predictability
This is one of the major areas that bonds have proven to be a much better investment option as compared to stock. Do you know that stocks are highly volatile? This simply means that your investment can be easily affected by different economic factors like recession, foreign exchange, government policies and more. The increased volatility of the stock market makes your investment highly unpredictable. For instance, stocks that look promising and appear likely to bring in high ROI (return on investment) can end up producing zero returns or even losses.
It is the reason why experts only consider stocks as the perfect long term investment. They tend to respond swiftly to various economic changes that are occurring. You can lose over 10% of your stock within a period of 12months. This isn’t the case for bonds which are great during unpredictable circumstances. During a recession period, it is recommended that you always consider the option of investing in high quality bonds. In other words, your portfolio should consist more of bonds than stocks. The reason for this is quite simple – they are not as volatile as stock.
Retiring into the bear market is something that is very common with stock investment. This is very much different with bonds. For instance, as a retiree, it gives you the chance of making near-accurate predictions about your expected earnings in the nearest future. When equities start declining, you have the adequate time to make up for any loss.
The bottom line to always remember is that economic factors don’t affect bonds as much as they do to stock investment. The latter is highly unpredictable. It may have promising and high returns. However, such is always a trap due to economic factors and variables at work.
Steady interest & income
This is another aspect where bonds seem to be a much better investment as compared to what stock has got to offer. Although stocks will yield higher returns, don’t forget that they tend to be riskier. In case you need an income source that seems to be steady and reliable, bonds can offer such. They are hardly affected by unpredictable circumstances which can easily influence the stock market. Just as stocks have been able to make lots of millionaires over the years, that is how it has destroyed lives.
The reason is simply because of its highly volatile nature. This means it can hardly be predicted accurately in any way. Bonds in this case are also volatile but not like stocks. It should be noted that there are some bonds that are highly risky to invest in though. These bonds tend to generate higher returns over the course of time. Bond prices are always more dynamic as compared to stocks. Due to this, their prices go up when stock prices are going down.
The instrument of debt advantage
This is another aspect that bonds have proven to have an edge over stock. They are seen as an instrument or tool of indebtedness. As a bond holder, your investment in a company is protected when compared to what stock investors will face. The reason is that such certificates are treated the same way as a debt. In other words, bond investors are given the same preferential treatment in a company like creditors. They are paid interest as at when due with the principal amount being agreed to be released or paid in future.
Stock investors are considered as shareholders. In other words, they will receive dividends which is usually part of the company’s earnings/profits over a given period of time. As shareholders, they belong to the inner circle of the company. Simply put, they are part of the company. This simply means should any event start threatening the existence of such a company, shareholders are the ones who will be given last attention as compared to bond investors. If the company doesn’t make profits, shareholders won’t be paid dividends.
The company management will ensure that bond certificate holders are paid first before shareholders. The reason is that bonds are treated as indebtedness. In other words, investors of bonds are being viewed as people who borrowed the company funds at some point. Such loans will have to be paid before other matters are given due attention. The interest in such investment will be paid either monthly, annually, or semi-annually. It all depends on the agreement between the bond issuer and holder.
There have been situations whereby stock investors or shareholders lost their money due to companies losing money and going out of business. This usually happens during recession periods in various countries. In such case, there will not be any dividend since the company is obliged legally to pay up creditors it is owing first. Bond holders are one of such creditors. They will be paid first before any other.
There are even some countries around the world where bond holders are offered some forms of legal protection. Simply put, the law protects them and their investments. This is obvious in a situation whereby a company goes bankrupt. Bondholders in this case are in a much better position to receive a recovery amount (some portion of their investments). Stock investors on the other hand may not receive any payment or compensation during such times. This advantage has been one of the reasons why people are investing in bonds in recent times more than ever before. A typical example could be bonds which are issued alongside indentures.
Its influence on stock market
It is interesting to know that bonds can easily influence the direction of the stock market. Stocks on the other hand, cannot influence how bonds can be sold. The economic and financial implication of this is that bonds are a much safer investment to delve into. The only time that stocks perform very well is when there is an economic boom.
In such instances, shareholders are likely to have high returns on investment. Bonds on the other hand, doesn’t depend on economic factors for interest to be paid. One of the few times losses can be experienced is when a holder decides to sell his bond prior to its date of maturity.
Having seen the above, it is obvious that high quality bonds are far better than stocks in lots of regards. Taking advantage of their investment options will help you generate slow and steady income over years without hassle.