For investors, the decision between stocks and bonds often hinges on their financial objectives, risk tolerance, and time horizon. Stocks are well-suited for individuals with a long-term investment outlook who can weather market volatility for potentially higher rewards. Bonds are ideal for those seeking steady income and lower risk, particularly during periods of economic uncertainty. Together, these assets complement each other in a portfolio, with stocks driving growth and bonds providing stability. A balanced approach that includes both asset types can help investors achieve their financial goals while mitigating risk.

Fundamentally speaking, Stocks and Bonds are both popular investments globally but there are few differences between them from the perspective of risk, ownership and returns. Let's look at what are the key differences between Stocks and Bonds?

What are Stocks?

Stocks in layman language means owning a piece of the company. Once we buy a stock we are owning a fraction of the company. The Stock is traded on the stock exchange, the price varies as per the conditions of the market.

Stocks are inherently growth-oriented investments, with returns derived from capital appreciation (the increase in stock price over time) and, in some cases, dividends. These payments, distributed from the company’s profits, provide an additional income stream to shareholders. Stocks tend to offer higher long-term returns compared to other asset classes, but this potential comes with significant risk. Stock prices are highly volatile and influenced by factors such as company performance, market sentiment, and economic conditions. As a result, investors in stocks must be prepared for substantial price fluctuations and the possibility of losing a portion or even all of their investment.

Key Characteristics of Stocks

• Ownership- The owner of the stock has a share of the company that has fluctuating price

• Types of stocks- There are 2 types of stocks which are-

1. Common stock- The stock owned by a common inventor with no voting rights on the decision taken by the company.

2. Preferred stock- Higher priority stock with the stakeholder is given a preference in case of company’s liquidation.

• Dividends- Dividends are often paid to the shareholders on a quarterly/monthly basis depending upon the company.

• Price Volatility- The price of the stocks keeps on fluctuating depending upon the market conditions.

• Capital Appreciation- If the price of the stocks bought by investors gradually increases over the time, it leads to high capital gains.

• Risk- Stocks are risky, when the price of stocks increase it leads to gains but can cause losses of large amounts of money if the market is unstable.

• Liquidity- We are easily able to sell off the shares.

• Market Price- Stocks have a market price that keeps on fluctuating depending upon the condition of the market. It also depends upon the company’s performance and broader market trends.

What are Bonds?

Bonds are any type of debt security. It is like lending money to a company against a fixed return. The company pays the interest monthly, quarterly or annually as per the mutual agreement. The Bonds have a fixed maturity period and the company has to return the principal after the maturity.

When you buy a bond, you are essentially lending money to an entity—be it a corporation, government, or municipality—in exchange for regular interest payments (known as coupons) and the return of the principal amount at a specified maturity date. Unlike stocks, bonds do not confer ownership in a company. Instead, bondholders are creditors, with a higher claim on the issuer’s assets in the event of bankruptcy, making bonds generally less risky than stocks. Bonds are ideal for income-focused investors seeking stable, predictable returns. However, they typically offer lower returns compared to stocks, reflecting their reduced risk. Bond prices are influenced by factors such as interest rates, credit ratings, and inflation. For instance, when interest rates rise, existing bond prices tend to fall, as newer bonds may offer higher yields.

Key Characteristics of Bonds

• Face Value- It is the amount that the bond will pay back to the bondholder at maturity.

• Coupon Rate- It is a kind of interest that the issuer agrees to pay the bondholder which is literally the percentage of the face value.

• Maturity Date- The maturity rate is when the face value of the bond is repaid to the bondholder and thus the bond is called ‘mature’.

• Issuer- There are three types if issuer:

1. Governments- some of the bonds are issued by the government, which are typically considered safer in stable economies.(for eg-Karnataka State Financial Corporation)

2. Municipalities- Type of bonds that are provided by state governments,cities and states.

3. Corporations- Corporate bonds are issued by companies and its price depends upon the company’s working.

• Price- The price fluctuates but it is not very volatile. Overall, it is comparatively stable compared to stocks.

• Agreement- The bond issuer has an agreement with the investor that he would pay the agreed interest and the principle.

• Risk- The bondholder is at various risks including default of payment in case of liquidation, inflation risk and low interest rate risk.

Size of The Indian Market: Stocks vs. Bonds

The Indian Stock Market is the seventh largest stock market in the world with a total capitalization to be $5 trillion in 2024. This is in comparison to the deepest stock market in the world of the US having total capitalization to be over $50 trillion. There are about 160 million DEMAT accounts in India which is just 17% penetration. On the contrary in the States this proportion is much higher at 62%.

The Indian Bond Market is valued at about $2.59 trillion. It is a mere 16% of the GDP which is one the world’s smallest percentages. On the contrary in the States this proportion is about 22% of the GDP valued at $50.9 trillion.

What are the risks of owning bonds vs stocks? Which one is more riskier?

Stocks are generally more riskier than bonds as their prices fluctuate based on the market condition. There is no commitment from the company about the price of the stocks. On the other hand Bonds are a committed instrument released by the company wherein it binds itself to a fixed interest commitment. The primary risk in the private company bond is that of bankruptcy. Government company bonds on the other hand are much safer with minimal to no risk.

Stocks are an instrument which are very high on the return but less predictable. Investors might earn a fortune if all goes well, but end up losing everything if things go southways. Bonds are low return products with interest rates very close to the prevailing bank. Bonds - Investors receive a fixed repayment in the form of interest. If the company goes bankrupt, the bondholders are given priority during repayment and liquidation. Stocks - Stockholders earn dividends, but they are not guaranteed. It is because stocks are heavily dependent on the company's performance. Stockholders gain voting rights. If the company goes bankrupt, the stockholders are left with residual value i.e. whatever is left behind after everyone else has been paid.

Key Differences Between Bonds & Stocks

The key distinction between stocks and bonds lies in ownership versus lending. Stocks give you partial ownership of a company, while bonds are loans made to the issuer. This fundamental difference drives their roles in a portfolio. Stocks are favored by investors seeking long-term growth and willing to accept higher volatility. Bonds, on the other hand, appeal to conservative investors who prioritize stability and income, particularly retirees or those nearing their financial goals.

Another critical difference is the priority in bankruptcy proceedings. Bondholders, as creditors, are prioritized over shareholders, meaning they are more likely to recover some or all of their investment in case the issuer defaults. Shareholders, however, are last in line and may lose their entire investment if the company becomes insolvent. This distinction underscores the relative safety of bonds compared to stocks.

From a tax perspective, returns on stocks and bonds are treated differently. Stock returns are subject to capital gains tax when shares are sold at a profit, while dividends may also be taxed, depending on jurisdiction. In contrast, interest income from bonds is generally taxed as ordinary income, though certain government or municipal bonds may be tax-exempt, offering an advantage to specific investors.

A wise choice would be to allocate funds in both instruments based on an individual’s risk appetite. In short, stocks are about owning a piece of a company and taking on higher risk for the potential of higher returns, while bonds involve lending money with a promise of fixed returns and lower risk but also lower potential for high rewards.