When it comes to investing, there’s no such thing as a bad question. That’s why we created Questions You Were Afraid to Ask—to tackle the common yet sometimes intimidating financial questions many people hesitate to ask.

In our last post, we explored why the Dow is valued so much higher than the S&P 500. Now, let’s turn to a question that’s crucial for every investor: What’s better, stocks or bonds?

Questions You Were Afraid to Ask #3:
What's Better, Stocks or Bonds?

When you purchase a bond, you are essentially loaning a company, government, or organization money. When you buy stock, you are purchasing partial ownership in a company. For this reason, stocks are equity investments while bonds are debt investments. Before we answer Question #3, let’s examine how each type works. 

How Stocks Work

When you buy a company’s stock, you’re purchasing partial ownership in that company. The more shares you own, the greater your stake. Stocks have the potential for high returns, but they also come with risks.

For example, imagine you invest $5,000 in ACME Corporation at $50 per share, giving you 100 shares. If the company grows and its stock price rises to $75, your investment is now worth $7,500. However, if the company underperforms, your investment can lose value just as quickly.

Pros of Stocks:

• Historically, they outperform other asset classes over the long term.
• Stocks offer liquidity, meaning they can be bought and sold relatively easily.
• Ownership in a growing company can lead to significant wealth accumulation.

Cons of Stocks:

• Stock prices are volatile and can change dramatically.
• If a company performs poorly or goes bankrupt, you may lose your entire investment.
• Selling stocks at a profit can lead to capital gains taxes.

How Bonds Work

Bonds, on the other hand, are essentially loans you give to a company, government, or organization. In return, they agree to pay you back with interest over time. Bonds are generally viewed as safer investments because they provide a predictable stream of income.

For example, if you purchase a bond, the issuing entity agrees to pay you regular interest payments. Once the bond matures, you get your initial investment back. However, bond values fluctuate based on interest rates and market conditions.

Pros of Stocks:
Typically, they are less volatile than stocks.

• They provide regular, predictable income through interest payments.
• Bondholders have a higher claim on assets than stockholders if a company faces bankruptcy.

Cons of Stocks:

• Bonds usually offer lower returns compared to stocks.
• Interest rate changes can affect a bond’s value before it matures.
• If you sell before maturity, you may receive less than your original investment.

Stocks vs. Bonds: Which is Better?

The answer is: It depends on your financial goals, risk tolerance, and time horizon. Stocks offer higher potential returns but come with greater risks. Bonds provide stability and income but may not grow your wealth as quickly.

Instead of choosing one over the other, many investors opt for a combination of both. Stocks and bonds are considered non-correlated assets, meaning they don’t always move in the same direction. If the stock market declines, bond values may remain stable or even increase. This balance can help manage risk while still allowing for growth.n another company.

The Power of Diversification

Most successful investors don’t put all their eggs in one basket. A mix of stocks and bonds can provide both growth and stability. This strategy, known as diversification, helps manage risk and smooth out market fluctuations over time.

What's Next?

Deciding which stocks and bonds to invest in is an entirely different challenge. That’s why next month, we’ll discuss another common investment question: How do funds work, and why do some investors prefer them?

Until then, remember—there’s no such thing as a bad financial question! If you have one you’d like us to cover, visit our contact page and let us know. Happy investing!

Your Questions Are Welcome

While we have a list of topics planned, we want this series to be as helpful as possible. Do you have a financial question you’ve been hesitant to ask? Is there a term or concept you’d love to have explained? Let us know—because this series is for you! Simply visit our contact page and send us a message with your question or topic idea.