Buying Bonds vs Stocks Difference: A Full Guide

When comparing stocks vs bonds, it's crucial to acknowledge that while both aim to generate returns, they operate through fundamentally different mechanisms. Stocks offer the potential for higher growth through capital appreciation, while bonds provide a more stable income stream. This blog will delve into the nuances of investing in bonds vs stocks, examining their key features and how they function within the Singaporean context.

Understanding stocks

For Singaporean investors aiming to participate in the growth of companies, stocks represent ownership in those entities. When you buy stocks, you acquire a portion of the company's assets and profits. Access to these stocks, including those listed on the Singapore Exchange (SGX), is readily available through various platforms, with popular options including online brokerages like Tiger Brokers and Saxo Markets. These platforms provide convenient ways for investors to buy and sell shares of publicly traded companies.

Investors in Singapore can earn money from stocks through two primary avenues: capital gains and dividends. Capital gains occur when you sell your shares for a higher price than you initially paid, reflecting the company's increased value. Dividends, on the other hand, are distributions of a company's profits to its shareholders.

While stocks offer the potential for substantial returns, it's important to acknowledge that they also come with a higher degree of volatility. 

Stock prices can fluctuate significantly based on market sentiment, economic conditions, and company performance. 

>> Read more: Best brokerage accounts for online stock trading

Understanding bonds

In contrast to stocks, bonds represent a loan you, as an investor, extend to a company or a government entity. 

When you purchase a bond, you become a creditor, and the issuer (the company or government) is obligated to repay the principal amount along with periodic interest payments. This makes bonds a debt instrument, providing a different risk-reward profile compared to the equity ownership of stocks.

Singapore offers a range of bond options catering to diverse investor preferences. Singapore Savings Bonds (SSBs) are particularly popular among conservative investors seeking stability and low risk. SSBs are government-backed bonds that offer a safe haven for capital preservation and predictable returns. They provide a fixed income stream with interest rates that are adjusted over time. 

Corporate bonds, issued by companies, also provide fixed income, but their risk level varies depending on the issuer's creditworthiness. Government bonds, in addition to SSBs, are issued by the Singapore government to finance its operations.

The duration of bonds varies depending on the specific type, ranging from short-term treasury bills to longer-term corporate bonds, and their interest rates, known as yields, fluctuate based on factors like market conditions and the bond's maturity.

>> Read more: How to buy bonds

While both stocks and bonds are investment vehicles, they represent distinct relationships with the issuer and offer varying risk and reward profiles.

>> Read more: How to buy, trade and invest in stocks in Singapore

Understanding equity vs debt

The core difference between stocks and bonds lies in the concept of ownership versus lending. Stocks represent equity, meaning when you purchase stocks, you acquire a stake in the company. As a shareholder, you participate in the company's potential profits and losses. If the company thrives, the value of your shares may increase, and you may receive dividends.

In contrast, bonds represent debt. When you invest in bonds, you are essentially lending money to the bond issuer, which can be a corporation or the government. The issuer is obligated to repay the principal amount (the original loan) at a predetermined maturity date, along with periodic interest payments. You do not gain ownership in the company or government entity; you are simply a creditor.

This distinction between ownership and lending has significant implications for how investors earn money from stocks and bonds. Stock investors primarily aim for capital gains through stock price appreciation, while bond investors seek predictable income through interest payments.

Understanding capital gains vs fixed income

Stocks and bonds offer distinct avenues for generating returns on investment, too.

To potentially profit from stocks, investors typically aim to sell shares at a higher price than their purchase price, resulting in a profit known as a capital gain. While these capital gains can be substantial, stock prices are subject to market volatility and can fluctuate significantly.

Bonds, on the other hand, primarily generate income through periodic interest payments to bondholders. For instance:

• Singapore Savings Bonds (SSBs): Provide regular interest payments, adjusted over time, offering a predictable income stream.

• Corporate bonds: Offer interest payments, but the frequency and yield can vary depending on the bond's terms and the issuer's financial stability.

While bonds are generally favoured for their stable income, they can also be traded on the secondary market, where price fluctuations may lead to capital gains or losses. However, for many investors in Singapore, the appeal of bonds lies in their predictable income stream rather than capital appreciation. Similarly, while some stocks pay dividends, providing a form of fixed income, this is not the primary mechanism for generating returns from stock investments. Therefore, when comparing stocks vs bonds, investors must weigh their priorities: the potential for high returns and capital gains with stocks, or the stability and fixed income of bonds.

>> Read more: Guide to treasury bills in Singapore

Understanding inverse performance

Historically, stocks and bonds have often exhibited an inverse performance relationship, meaning that when stock prices rise, bond prices tend to fall, and vice versa. This stock and bond difference is influenced by factors such as investor sentiment and economic conditions like inflation.

For example, during periods of strong economic growth, investors may be more inclined to invest in stocks, seeking higher returns, which can drive stock prices up and bond prices down due to lower demand. 

Conversely, during economic downturns or periods of uncertainty, investors may shift towards the perceived safety of bonds, increasing demand and pushing bond prices up while stock prices fall.

In Singapore, this buying bonds vs stocks dynamic can be observed in response to local and global economic trends.

For instance, during periods of low economic growth or rising interest rates, bonds, particularly government bonds and SSBs, may outperform stocks as investors prioritise capital preservation and stable income.

Understanding taxes

The tax treatment of stocks and bonds also contributes to the difference between stocks and bonds. In Singapore, there is generally no capital gains tax on profits earned from selling stocks listed on the Singapore Exchange (SGX). This can be a significant advantage for stock investors.

However, interest income from bonds is typically subject to income tax in Singapore, with some exceptions. 

Singapore Savings Bonds (SSBs), for example, offer tax-exempt interest income, making them even more attractive to conservative investors seeking tax-efficient returns. The tax treatment of corporate bonds varies depending on the specific bond terms.

Therefore, when investing in bonds vs stocks, Singaporean investors should consider the tax implications of each investment type and how they align with their overall tax strategy.

>> Read more: How does investment diversification work

What are the risks and potential returns?

Risks of stocks

The primary risk associated with stock investments is the potential for a decrease in share value after purchase. Stock prices can experience volatility due to various factors, including company performance, market fluctuations, and economic conditions. If a company's financial results fall short of expectations or if investor confidence declines, its stock price can fall, leading to potential losses for investors.

Considering the multitude of factors that can impact a company's financial health, stocks are generally considered riskier than bonds.

However, this higher risk is accompanied by the potential for greater returns. Historically, the stock market has delivered substantial long-term growth, though past performance is not indicative of future results.

Risks of bonds

In contrast, bonds, particularly Singapore government bonds and Singapore Savings Bonds (SSBs), are generally perceived as more stable than stocks in the short term. This stability, however, typically translates to lower potential returns compared to stocks. Bonds like SSBs offer a degree of capital preservation, as the Singapore government backs them.

Corporate bonds, on the other hand, present a wider spectrum of risk and return. The risk associated with corporate bonds is influenced by the issuer's financial stability and creditworthiness. Credit rating agencies provide assessments of a company's ability to meet its debt obligations.

Corporate bonds are broadly categorised as follows:

• Investment-grade bonds: These bonds have higher credit ratings, indicating lower risk and generally lower returns.

• High-yield bonds: Also known as "junk bonds," these bonds have lower credit ratings, implying higher risk but the potential for higher returns.

These varying risk and return profiles help investors in Singapore construct diversified investment portfolios.

As such, as a general guideline, investors aiming for greater growth potential might allocate more towards stocks, whereas bonds are often employed to diversify a portfolio and prioritise preserving capital over maximising returns.

>> Read more: What are fixed income investments

The decision of whether it is better to invest in stocks or bonds is not a matter of one being inherently superior to the other. Rather, it depends on individual investment goals, risk tolerance, and time horizon. Both stocks and bonds have a place in a diversified portfolio, and their suitability varies depending on the investor's circumstances.

Generally, younger investors with a longer time horizon may be more inclined towards stocks. Stocks offer the potential for higher growth, which can be beneficial for accumulating wealth over time. However, younger investors should also be prepared to weather market volatility.

Older investors, or those nearing retirement, may prioritise bonds. Bonds provide a more stable income stream and capital preservation, which can be crucial for investors seeking to protect their nest egg and generate regular income during retirement.

In Singapore, investors can effectively use stocks, including Exchange-Traded Funds (ETFs) which offer diversified exposure to stock indices or sectors, for growth, and bonds, such as Singapore Savings Bonds (SSBs) for stability and income, tailoring their asset allocation to their specific needs. 

For those seeking a convenient and automated approach to stock and bond difference management, robo-advisors like StashAway and Syfe offer platforms that automatically diversify investments across asset classes. These platforms can be particularly useful for investors seeking a balanced portfolio without actively managing their stock and bond holdings.

While stocks and bonds have distinct characteristics, some financial instruments blur the lines between debt and equity. Understanding these nuances is important for sophisticated investors seeking to diversify their portfolios.

Understanding dividends and preferred stock

Dividend stocks, issued by large, established companies, provide regular income to shareholders. These dividends can resemble the fixed income stream of bonds, offering a degree of stability. However, unlike bonds, dividend stocks still represent equity ownership, allowing investors to participate in potential capital gains.

In Singapore, Real Estate Investment Trusts (REITs) are a popular example of equity investments that offer regular income. REITs own and operate income-producing properties, distributing a significant portion of their profits to unitholders as dividends. REITs provide investors with exposure to the real estate market while offering a relatively stable income stream, sharing characteristics of both stocks and bonds.

Preferred stock is another hybrid security that exhibits features of both equity and debt. Preferred stockholders receive fixed dividends, similar to bond interest payments, and have a higher claim on company assets than common stockholders. However, like common stock, preferred stock represents ownership in the company.

Trading bonds on the market

While bonds are primarily held for their predictable income stream, they can also be traded on the secondary market. In Singapore, platforms like the Singapore Exchange (SGX) facilitate bond trading, allowing investors to buy and sell bonds before their maturity date.

Singapore Savings Bonds (SSBs) offer a unique feature in terms of liquidity. Unlike some other bonds, SSBs can be redeemed at any time without penalty, providing investors with flexibility and access to their capital when needed. This makes SSBs an attractive option for conservative investors seeking both stability and liquidity.