How Stocks and Bonds Differ and Why It Matters

Stocks and bonds are both common types of investments used to grow wealth, but they’re not the same. When you have a diversified portfolio, you balance stocks and bonds in equal ratios. In order to understand why this is important, let’s first start by examining how stocks and bonds differ on a very fundamental level.

How Are Stocks and Bonds Different?

The difference between stocks and bonds on the most fundamental level is that stocks represent partial ownership of a company, while bonds represent payments of interest in exchange for lending money. When you buy stock, you own part of a company, while owning a bond means you lend money to a company for an agreed-upon period of time and receive interest until the date when the bond reaches maturity.

What It Means for Investors?

Investing in stocks provides more opportunities for profit, but it also carries more risk. If you have a long investment horizon, meaning that you are planning to invest your money and leave it alone for a period of years, then stocks can really grow your portfolio over time. But if you are looking for ways to save and plan to spend some of the money within the year, you may want to consider putting that money into safer investments like bonds or guaranteed savings accounts.

Because they are not as dependent on the ups and downs of the market, bonds tend to be a better choice for investors with a shorter investment horizon. They also appeal to individuals who are risk-averse and want their principal back at a set date.

Which Is the Better Option for You?

Many people make investments in both bonds and stocks to diversify their portfolios. Deciding on the right mix of bonds, stocks, and other instruments is important to ensure you are financially secure and not taking on more risk than you would like to. If seeing the temporary fall of a stock’s price will cause you to panic or you are approaching your retirement age, having more bonds in your investment portfolio may be the better option. In comparison, young investors who can stay invested for a long period of time can include more stocks in their portfolios.