Why are bonds less riskier than stocks?
In: Economics
Bonds are debt. Stock is equity. If a company goes bankrupt the assets get sold and debt holders get something. Equity holders get nothing.
This is an oversimplification but that’s the core of it.
They are very different things.
A bond is like a loan, and you are one of the lenders. The bond issuer is borrowing money from you, and promises to pay it back with a set interest rate. Unless something happens to the bond issuer, it’s almost a sure thing.
A stock is part ownership in a company. If that company looks like it is doing well and will continue to do well, the value of the stock tends to go up because other people are eager to buy them from you. But if the company doesn’t do well, the value of the stock can drop and you can lose money.
They are not always less risky, but bonds have a floor – unless the issuer goes bust, they will pay a certain amount on a certain date (or dates). Stocks are only worth what someone else will buy them for, and there’s no guarantee that someone will want to buy the stocks you own when you want to sell them, at least not at the price you want. Assuming the underlying company remains solvent, a bondholder is entitled to the stream of payments the bond promises to pay, and that’s trivial to value. A stockholder is entitled to nothing except the ability to sell that stock to a willing buyer (leaving issues like dividends and voting rights aside).
All debt includes unconditional payments. The borrower has to pay you back, often in set contractual installments.
Equity, on the other hand, does not have this. The company borrowing your money has no obligation to pay you back every year. So you could not see returns for years.
This is why debt is less risky than equity
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