In the investment world, you'll often hear about stocks and bonds. They are both possible forms of investment. They allow you to invest your money with a particular company or corporation with the possibility of future profits. But how exactly do they work? And what are the differences between them?
Bonds
We'll start with bonds. The easiest way to determine the relationship through the concept of credit. When you invest in bonds, you are essentially lending their money to a company, corporation, or government of their choice. This institution, in turn, will give you a receipt for your loan, along with the promise of interest, in the form of bonds.
Bonds are bought and sold on the open market. Fluctuation of their values is based on the interest rate the economy as a whole. In general, the interest rate directly affects the value of your investment. For example, if you have a thousand dollars bond that pays interest at a rate of 5% per year, you can sell it at a higher face value provided for the general interest rate below 5%. And if interest rates rise above 5%, bonds, although it can still be sold, usually sold at a price below its par value.
The logic of this system is that investors have to deal with a higher interest rate, the actual bond pays. Thus, the bond is sold at a lower value in order to compensate for this deficiency. OTC market, which consists of banks and security firms, is a favorite place for trading in bonds, because corporate bonds can be listed on the stock market, and can be purchased through stock brokers.
With bonds, unlike stocks, you as an investor, do not directly benefit from the success of the company or the amount of their profits. Instead, you will receive a fixed rate of return on bond. Basically, this means that if a company is successful or dreadful year of business, it will not affect your investment. Your link return rate will be the same. Your return is a percentage of the original proposal of the bond. This percentage is called the coupon rate.
It is also important to remember that bonds have maturity dates. Once the connection reaches its term, the principal amount paid for that bond returns an investor. Different bonds are issued by different maturity dates. Some bonds can have up to 30 years maturity.
When working in the bonds, the largest investment risk that you face is the possibility of the principal amount invested shall not be paid back to you. Obviously, this risk can be somewhat controlled through careful evaluation of the company or agency that you choose to invest in.
Those companies that have more credit is generally safer investments when it comes to bonds. The best example of "safe" bonds of government bonds. Another blue chip company bond. Blue chip companies are well established companies that have proved successful, and a track record over a long period of time. Of course, these companies will have lower coupon rates.
If you're willing to take greater risks for a better coupon rates, then you'll probably end up choosing the companies with low credit rating companies, which unproven or unstable. Keep in mind, there is great risk of default on the bonds from smaller corporations, however, another side of the coin is that the bondholders of these companies preferential creditors. They get compensated before shareholders in the event of business on the verge of bankruptcy.
Thus, less risk, choose to invest in bonds from established companies. You will probably earn their income, but they probably will not be very large. Or, you can invest in smaller, unproven companies. More risk, but if it pays off your bank account will be greater, too. As with any venture capital, there is a compromise between the risks and possible rewards of bonds.
Stock
Stocks represent shares of the company. These shares give part ownership of company to you, the shareholder. Your share in this company is determined by the number of shares that you, the investor alone. Stock comes in mid-caps, caps and large caps.
As with bonds, you can reduce the risk of stock trading by choosing stocks carefully, assessing your investment and weighing the risk of various companies. Obviously, the entrenched and well-known corporation is much more likely to be stable, the new and unproven one. And the stock will reflect the stability of the company.
Stocks, unlike bonds, fluctuate in price and traded in the stock market. Their value is based directly on the company. If a company is doing well, growing and achieving profits, and shareholder value. If a company is to weaken or fail, the company's shares down in price.
There are various ways in which shares are traded. In addition to being traded as shares of companies whose shares may also be traded in the form of options, which is a type of futures trading. The stock may be sold and brought in the stock market on a daily basis. The value of a particular stock may increase or decrease depending on the ups and downs of the stock market. Because of this, investing in stocks is much riskier than investing in bonds.
Summary
Both bonds and stocks can be profitable investments. But it is important to remember that both options also carry some risks. Aware of the risk and take steps to minimize and manage it, and not vice versa, will help you make the right choices when it comes to your financial decisions. The key to wise investing is always good research, solid strategy, and leadership you can trust.
