Differece Between Stocks and Bonds on Espresso

Difference Between Stocks and Bonds

When you invest your money in stocks (or any other market-linked instrument for that matter), you can never be sure of your returns. Investing in these instruments comes with a fair share of risks and rewards.

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While you can multiply your wealth several times if all goes well, you can also lose your money in case of unfavourable market movements.

That is why financial recommendations always recommend that every investor must diversify their investment portfolio. Diversification refers to investing your money in various asset classes with different risk-reward propositions to reduce your overall risks in the long term. Ideally, if you’re investing in equities, you should also invest a portion of your money in debt securities.

One of the best ways to diversify your investment portfolio is by investing simultaneously in stocks and bonds. While stocks are pure equity instruments that help you gain high returns on your investments, bonds are debt instruments that prioritise capital preservation over capital appreciation.

In this article, we will tell you the differences between stocks and bonds. We will also conduct a brief study of the bond market vs the stock market. Continue reading to know more.

What Are Stocks?

Stocks or shares are equity instruments representing a part of the ownership of the issuing company. Whenever a company decides to raise capital by diluting its equity ownership, it releases its shares for sale in the public domain.

When you purchase stocks or shares of a company, it means that you’ve got fractional ownership in that company. The company can distribute its profits to you in the form of a dividend. You can also make profits by selling the stocks or shares owned by you when their prices rise.

Below are some prominent characteristics of stocks:

  • A stock represents the ownership unit of a company. When you invest in stocks, you get a part of the ownership of its issuing company.
  • Stock prices are highly volatile depending upon several factors. This provides you with a chance to earn very high returns.
  • Owing to their volatile nature, stocks are highly risky. You should consider your risk appetite carefully before investing in stocks.
  • You can also get a part of the company’s profits in the form of dividends.

What Are Bonds?

Bonds are purely debt instruments. Whenever an organisation wants to take a loan from the public, it issues bonds. Bonds are usually issued by Governments and private companies. When you invest in a bond, it means that you have given a loan to the issuing organisation. In return, the issuing organisation will provide you with interest.

Owing to their debt-oriented nature, bonds are relatively safer investment instruments as compared to shares or stocks. Also, bonds are issued for limited periods only, after which the money is returned to the investors.

Below are some prominent characteristics of bonds:

  • Bonds are issued by Governments and private organisations to raise debt funding from the public
  • The issuing companies pay interests to investors
  • Since bonds are debt-based instruments, they are less volatile
  • Investments in bonds are focused on capital preservation rather than capital appreciation
  • Bonds are issued only for limiter periods after which the money is returned to investors

Stocks vs Bonds

Now that you know about both these instruments, the basic difference between stocks and bonds must be clear to you. Let’s conduct a brief study of stocks vs bonds based on various parameters. It will help you know the differences between the two financial instruments more clearly.

Parameter

Stocks

Bonds

Definition

Stocks are equity instruments that are used to sell the fractional ownership of a company

Bonds are debt instruments that are used to raise funding from the public in the form of a loan

Instrument type

Stocks are purely equity-based instruments

Bonds are purely debt-based instruments

Issuance

Stocks are generally issued by large corporations private limited, and joint-stock companies

Bonds are usually issued by Governments, public sector authorities, private companies, trusts, and credit institutions

Status of investors

The investors own a part of the issuing company

The investors only lend their money to the issuing company and don’t become the owners

Returns

Investors in stocks can earn very high returns through capital appreciation. However, it depends upon the market’s performance.

Investors in bonds usually get fixed returns on their investments in the form of interests

Risks

Stocks are highly risky instruments. Returns from stocks are never guaranteed

Bonds are relatively safer instruments and involve fewer risks.

Tax liability

Investors in bonds are not exposed to any tax liabilities

Investors may have to pay Capital Gains tax or Dividend Distribution tax

Investors

Retail investors and speculators usually invest in bonds

Anyone can invest in stocks, be it, retail investors, institutional investors, traders, or brokers

Market

Bonds can be sold or purchased Over the Counter (OTC). They do not have any centralised trading system like the stock exchanges

Stocks can be sold or purchased through the stock exchanges

 

To Conclude

We hope that after reading this article, the differences between stocks and bonds are clear to you. Both financial instruments have some advantages as well as limitations. You must consider your risk appetite, investment horizon, and investment objective while deciding to invest in them. Ideally, you should create a diversified investment portfolio with the right mix of stocks and bonds.

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Frequently Asked Questions

You can trade in stocks by placing buy and sell orders on the stock exchanges. However, you cannot trade directly in the stock markets. For this, you will need to open a Demat and trading account with a stockbroker.

You can invest in bonds by purchasing bond certificates over the counter. Whenever a company or Government issues bonds, they send notifications via various mediums. You can go and purchase these bonds by paying the requisite money.

It depends on various factors, such as your risk appetite, investment horizon, and investment objective. Depending on these factors, you should allocate your investment to stocks and bonds. If you have a high investment horizon, you should invest more in stocks. However, if you prefer the security of your capital, you should invest more in bonds.