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What Is the Difference Between Stocks and Bonds?

When they first start showing an interest in investing most people come across the terms “stocks” and “bonds”. You might think that they sound kind of similar but they actually represent very different ways of trying to make money from your investments. If you want to make the most of your cash then you need to work out what the difference between stocks and bonds is.

What Are Stocks?

Stocks are shares in companies. When you buy any stock you are simply buying a bit of the company. Obviously many companies have millions of shares issued on the open market, so if you buy a small amount of stock then you are buying a tiny part of the company. However, no matter how small your part of the company is you will still receive the benefits of being a part owner, such as a regular dividend (when payable) and company financial information.

The Benefits and Risks of Stocks

The main reason that a lot of people choose to invest in stocks is that they offer the enticing possibility of increasing in value over time. If a company does exceptionally well and keeps on growing and making money then you can expect this to be reflected in the value of its stock. There are few types of investment that offer the tantalizing opportunity of seeing your money increase so well over a relatively short period of time. Of course, the flip side of the coin is that share prices can also tumble dramatically as well. A run of bad luck or bad decisions in the stock market can see you lose a whole lot of money very quickly. Stock in bigger, more stable companies is generally less volatile than with smaller, emerging firms.

What Are Bonds?  

On the other hand, bonds are issued by governments or companies on debt. This is done when they need to raise cash. Every bond is for a certain value and the issuer promises to pay a fixed amount of regular interest to the people who buy them. Once the bond reaches its maturity date the initial sum is returned and the investment ends.

The Benefits and Risks of Bonds

This is seen as a safe and sensible way of getting a decent return on an investment. Provided that the issuer is reputable then you should expect the interest to be paid on time and the initial sum to be returned without any problems. The big downside to bonds is that the amount of money you make on them is fixed at the beginning and won’t ever increase. There is also the risk that the issuer defaults on the bonds and doesn’t pay back the original money when they are meant to, although this is relatively uncommon.

Which One to Choose

If you want to grow your money quickly and can handle the risk of losing cash on your investment than a stock market investment is hard to beat. If you do your homework and make some smart purchases then it could be the best financial move you ever make. Stock is also commonly regarded as being a better longer term option for growing money than bonds are.

If you want to keep your initial amount of money safe and don’t mind a reasonably modest return on it then bonds are probably going to be more to your liking. You will have a high degree of peace of mind once you put your money into a bond issued by a government or corporation that you trust. It is also a good choice of short term investment for anyone who doesn’t want their money tied up for too long.

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6 Responses to What Is the Difference Between Stocks and Bonds?

  1. Mario says:

    Great explanation! For me, I like thinking about it from the company’s perspective. I can either finance operations by taking a loan from people or by letting them own a piece of the company. Since they have less of a guarantee that I’ll be a success than that they’ll get my interest rates, I’ve got to pay more when I go the partial ownership route :)
    Mario recently posted…What being an Army Veteran taught me about managing my moneyMy Profile

  2. Kathy says:

    We balance our portfolio pretty much 50/50 stocks and bonds, with a couple of MLPs, REITs, and BDCs tossed into the mix. The one thing we do is invest in only stocks that pay dividends. We buy and hold and even in a downturn such as in 2008, even though the net asset value went down, the interest and dividends just kept right on coming.

  3. Kalen Bruce says:

    Nice job explaining the two. I personally stay away from bonds almost entirely. I have a large emergency fund for a safety net, and I might invest in bonds later down the road, but for now, I invest heavily in value stocks. I’ve done research and found that the types of stock I invest in tend to stay about the same through market crashes and corrections, so I don’t feel the need for bonds right now, but for people who don’t want to put the time in (or don’t have the time) to research the companies, bonds are a great choice!
    Kalen Bruce recently posted…How Does Debt Settlement Affect My Credit Score?My Profile

  4. Nice write up. The only thing I would add is that your portfolio isn’t an all or nothing choice. You can go 100% stocks or 100% bonds, but the vast majority of people do some combination of both. Figure out your risk tolerance and you will find a lice balance between the two.
    Jon @ Money Smart Guides recently posted…The Only Tip You Need For Retirement Saving SuccessMy Profile

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