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Chapter 3 — THE DIFFERENCE BETWEEN STOCKS AND BONDS
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THE DIFFERENCE BETWEEN STOCKS AND BONDS

What Can I Invest In?

THE DIFFERENCE BETWEEN STOCKS AND BONDS

Understanding the difference between stocks and bonds is necessary for making a successful choice of what to invest in. So, let’s take a closer look at the difference between stocks and bonds:

The difference between stocks and bonds

DEFINITION

Stocks, or rather shares of a company, directly represents a small portion of that company. Essentially, when you buy a stock, you are now a part-owner of the company in question.

Bonds are a form of long-term debt in which the issuing corporation promises to pay the principal amount at a specified maturity date. In other words, it’s a debt based investment where an investor loans money to an entity such as a corporation or even a national government which subsequently borrows the funds for a defined period of time at a fixed interest rate

VOTING RIGHTS

The voting right of holders of stock depends on the stock type (common or preferred) that they hold. Holders of common stock can vote on certain company issues, such as the election of directors or voting on corporate policy. Preferred-stock owners have no voting rights, the same as bond-holders.

WAYS OF EARNING MONEY

Stocks pay dividends, which are a distribution of the corporation's profits to its owners. The owners of preferred stock receive dividends before common shareholders and have priority in the event that a company goes bankrupt and is liquidated. However, the dividend occurs only if the corporation's board of directors declared the dividend. The dividend payments are not an expense on the corporation's financial statements or on its U.S. income tax return.

Bonds also promise to pay a fixed interest payment to the bondholders usually every six months until the bonds mature. In the U.S. the interest paid to the bondholders by the corporation is a deductible expense on the corporation's income tax return.

RISK

In general, stocks are considered riskier and more volatile than bonds, because, in the event of the liquidation of a business, the holders of its stock have the last claim on any residual cash, whereas the holders of its bonds have a considerably higher priority, depending on the terms of the bonds. However, there are many different kinds of stocks and bonds, with varying levels of volatility, risk and return.

Although there are a lot of differences between stocks and bonds, they both are the most popular types of investment and may be traded on a public exchange.

 

Quiz

What is a stock?

Correct
Incorrect
0/76 (0%) Correct
  • 1
    A physical piece of property
  • 2
    A part of a company
  • 3
    A debt-based investment
  • 4
    A car with no modifications
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