Investors generally own several different kinds of investments in their portfolios. In order to diversify their overall holdings, most investors end up with portfolios that contain both equities and bonds. Many people make their bond investments through shares of exchange-traded funds or mutual funds and therefore end up combining them with their stocks in a single portfolio, but it's critical to understand that just because the investments are listed side by side doesn't mean that they're the same. Let's take a closer look at the two different asset classes.
Equities and growth
Investors buy equities, which is simply another name for stocks, in order to generate growth. The ideal stock is one whose share price rises over time, allowing the investor eventually to sell at a large gain and keep the appreciation as their profit.
The downside of equities is that they tend to be riskier than other types of investment assets. Volatility is higher with stocks, and historically, the stock market has gone through extended periods of substantial losses. Even though the long-term returns on equities are better than what investors have gotten from bonds and other investment assets, being able to handle the sometimes wild swings in value in stocks is critical in order to avoid massive losses that can eat into your overall investing performance.
Bonds and stability
Investors look at bonds as a way to counterbalance some of the volatility in their equity holdings. Bonds don't give investors an opportunity to grow in value, but they do provide regular and predictable portfolio income.
ETFs and mutual funds that own bonds don't necessarily move as abruptly as their stock-holding counterparts, but even bonds are vulnerable to price fluctuations. If you own individual bond securities, however, they will always be worth whatever their face value is if you hold them until maturity, unless the issuer defaults on its obligation to repay. That inherent promise provides stability to bonds in a way that stocks can't match.
The best investors have portfolios that include equities, bonds, and a variety of other types of investment assets. Taken together, the diversified portfolios that result give these investors a lucrative combination of solid returns and controlled risk that most investors value highly.
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