Stocks vs. Bonds
Stocks vs. Bonds
Stocks and bonds go together like peanut butter and jelly or macaroni and cheese. This is
meant to imply that to a certain extent you should buy some bonds. But, if you are trying to
decide between purchasing a share of stock or purchasing a bond, you should probably go
with the stock. The return for stock averages about 12 percent, whereas the average return
on a bond is only 5 to 6 percent. The following table illustrates the approximate annual
returns by asset class since 1926. The overall average inflation rate has also been provided
as a reference upon which to base their profitability.
Please be aware that the "no limit" policy on a stock's growth is a Catch-22. Because no limit
is placed on how large the investment can grow, no limit can likewise be placed on how small
the investment may shrink. As a result, the single biggest factor that makes a bond a more
desirable investment is its guarantee of capital preservation. This means that when lending
your money to a company through the purchase of a bond, you may make less profit, but you
are assured of getting back at least the original amount you paid to purchase the bond.
Stocks make no such guarantee.
CAUTION
Stocks have the potential to provide higher returns than bonds; however, bonds
offer a higher degree of security for the principal amount invested.
In the very unlikely case that the issuing company of either a stock or a bond should go out of
business, all bond holders would be paid first from the liquidation of the company's remaining
assets. This gives bondholders a minimal edge over stockholders in recovering their initial
investment.
Remember, however, that the most fundamental reason for any investment is to make
money. By providing an investment with the necessary flexibility to make larger gains, it
becomes capable of making equally large losses. This concept is known as "risk and
reward."
With stock it is possible to get the best of both worlds: the safety of bonds with the profit
potential of stocks. Investments in solid companies, such as IBM or McDonald's for example,
carry little if any practical risk of going defunct anytime soon.
