Stocks and bonds are two common investment opportunities that you may choose for your money, whether you're saving for the near future or for retirement. Stocks are generally considered to be more volatile, but historically have brought a greater rate of return, while bonds are safer but less likely to bring outsized returns. There are also considerable differences among individual bonds and among individual stocks.
Historically, you can see a greater return on investment putting money in the stock market, but it can also be easier to lose your investment. For this reason, financial advisers often suggest moving money from stocks to bonds as you get older.
Buying Stock Vs. Bond Investments
Two of the most common investments are in stocks and bonds. Stocks convey a partial ownership in a company, while bonds represent an interest in debt owed by either a private organization, such as a company or nonprofit, or a government agency. Both can generally be bought and sold on open markets through brokerages, or in some cases bought and sold directly through the organizations issuing the securities.
Stock Vs. Bond Risk
Stocks are often considered to be riskier investments, since their prices can be volatile. If a company goes bankrupt, stockholders are also often the least likely to recover their investments, coming after bondholders and other creditors. On the other hand, investing in the stock of a company that does unexpectedly well can be quite lucrative, bringing tremendous returns for lucky and astute investors.
Bonds are generally more predictable, usually paying a fixed rate of interest over time, and considered safer. You can either hold on to a bond until it matures and the loan is paid off or sell it to someone else.
Bond prices generally go up and down based on prevailing interest rates, since investors will bid up the price of older bonds that can deliver rates higher than they can get on new bonds or bank accounts. They're also influenced by the financial condition of the underlying organization, since investors can lose out if the issuing organization defaults, or fails to make payment as required under the bond terms.
Stock and Bond Historical Performance
When you're thinking about your long-term interest, stocks have historically been a good bet. Over roughly the past 100 years, they've shown an annual return of about 10 percent per year. By contrast, long-term government bonds have returned between 5 and 6 percent.
On the other hand, there have been cases where the stock market has dropped precipitously, with bondholders escaping relatively unscathed. This means that bonds can be a better place to stash money you're going to need quickly or can't afford to lose, while stocks can be better for long-term investments.
Naturally, individual stocks and bonds can perform very differently from the market as a whole. Some blue chip stocks show less volatility than the market and pay a steady dividend, functioning almost like bonds, while so-called junk bonds can pay higher returns in exchange for a greater risk of default.
Investing in the Whole Market
Often, you'll invest in particular stocks and bonds rather than the stock and bond market as a whole, so your returns may differ from what the markets as a whole are bringing investors on average. If you want to invest more in the overall performance of one market or another, you can consider an index fund that invests in wide swaths of bonds or stocks. These funds generally use published rules to pick the stocks or bonds they invest in, such as investing in all the stocks in the Standard & Poor's 500 index or a group of large capitalization corporate bonds.
Shop around for a fund that invests in a segment of the market you feel good about and that charges fees you consider reasonable. You can generally invest in index funds through the brokerage of your choice.
Steven Melendez is an independent journalist with a background in technology and business. He has written for a variety of business publications including Fast Company, the Wall Street Journal, Innovation Leader and Ad Age. He was awarded the Knight Foundation scholarship to Northwestern University's Medill School of Journalism.