Everyone knows you shouldn’t keep all your eggs in one basket. This is especially true when it comes to investing. But, its important to understand bonds vs. stocks vs. mutual funds if you want to preserve and grow wealth.
When you’re investing for retirement and other life goals, it’s important to have different types of investments to achieve the returns you need to reach your goals.
Bonds, stocks, and mutual funds are powerful components of a well diversified portfolio. That’s why it’s important to understand what these investments are and how they differ.
Bonds are investments designed to help governments or corporations raise money to finance projects. They can be viewed as a loan to investors. The investor does not receive stock ownership in the company, but they do receive an interest payment.
Example: Apple needs to raise $10 million to build more computers. They decide to offer a 5 year bond to investors to raise the money. You purchase the bond at the issue price and Apple pays you interest on the money paid for the bond. After the bond matures, Apple pays you back the value upon maturity, known as the face value.
Bonds are “fixed income” assets, which means they pay interest at regular intervals until they reach maturity. They’re called fixed income because the amount of the interest payments are fixed in advance. When you buy a bond, you’re basically making a loan to the issuer.
When you think of bonds vs stocks (we’ll explain mutual funds a bit later), bonds are usually considered the safest of the two assets. Bonds are safer because corporations are required by law to pay back bond investors before stock investors in the event of bankruptcy. But that doesn’t make bonds risk free.
Bonds are rated for credit quality by a credit rating agency such as Moody’s or Standard and Poor’s to help investors gauge their risk. Investment-grade bonds typically have a rating of A, AA, or AAA.