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Stock market basics: The differences between stocks and bonds

by , 07 November 2014

If you're new to investing, you'll come across a variety of financial instruments. Two of the most popular are stocks and bonds.

Even if you're looking to invest in unit trusts, you'll come across funds that specialise in stocks and others that specialise in bonds.

So what are the differences between stocks and bonds? And what difference does it make to you investing in them?

Let's take a closer look…

The benefits of investing in stocks and bonds

When you invest in stocks, they provide you the chance of capital gains. In other words, once you invest you hope the share price will rise so you can sell at some time in the future for a profit.

On the other hand, there are bonds, Dr David Eifrig in Daily Wealth explains. Bonds give you a reasonably safe and steady-fixed income.

They both have their advantages and benefits to your investment portfolio…

What is a stock?

A stock (or shares) is when you own a small part of a business. You effectively become a business partner, better known as a shareholder.

If the business performs well, its owners (the shareholders) should profit. This can be in the form of rising share prices and dividends, if the company pays them.

If a company pays a dividend, there’s no guarantee that it will continue to do so. It can stop paying dividends or reduce the dividend payment. This isn’t good news if you invest in stocks like this.

What is a bond?

In contrast, bondholders don’t own a stake of the business. Bonds are simply loans to a company (or government).

As payment for the loan, the company or government pays bondholders a predetermined interest payment for the duration of the bond. This interest is non-negotiable. But it also means you know what interest payments you’re going to receive.

Once the bond reaches maturity, the company pays the bondholder back the original loan amount. And that’s the end of the agreement between the two parties.

If the company performs very well over the period you hold the bond, you don’t share in that success.

So there you have it, the differences between stocks and bonds.

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Stock market basics: The differences between stocks and bonds
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