Building the “perfect” investment portfolio can be tough, especially with so many choices, like fixed income and equities. However, both equities and fixed-income products can be strong components of your investment portfolio. After all, each one can help advance, in distinct ways, your overall strategy. Here are the pros and cons of each and how they compare.
Afinancial advisor could help you create a financial plan for your investment needs and goals.
What Are Fixed-Income Investments?
Fixed-income investments are those that regularly pay a certain amount. Typically, fixed-income investments come in the form of bonds, such as Treasury bonds or corporate bonds.
In this arrangement, the investor buys a debt security and receives regular interest payments in return. Typically, interest payments are made every six months, though they can also be paid quarterly or monthly. Bonds come with a maturity date, on which the principal is repaid to the investor.
Bonds are usually less risky than equities and tend to have lower returns as a result. However, there tends to be less risk when investing in fixed-income products. Those seeking consistent returns, even as just a small part of their portfolio, often look to fixed-income investments for a reliable return.
Of course, this is not to say fixed-income investments are entirely without risk. For instance, it is highly unlikely that those investing in U.S. Treasury bonds would ever lose their entire investment. But certain risks, such as interest rate risks, may still be a factor.
Pros
- Regular interest payments
- Less risky than equities
Cons
- Tend to have lower returns than equities
- Some bonds, such as U.S. savings bonds, can’t be sold on an exchange
What Are Equity Investments?
Equity investments give the investor ownership of a publicly traded company, usually in the form of stocks. Equity investors can also buy shares in a mutual fund or exchange-traded fund (ETF). These investments are traded on exchanges such as the NYSE and Nasdaq and can be purchased through stockbrokers. Employer-sponsored retirement plans, such as 401(k) plans, often include equity investments, such as mutual funds.
Equity investments can have certain advantages that often make them appealing to investors. For example, equities can have a high return on investment (ROI) for investors. Also, some stocks pay regular dividends to investors, similar to interest payments on bonds. Another benefit of stocks is that common stock, the type most investors buy, comes with voting rights.
But equities, too, have their downsides. They can be quite volatile, causing the value of investment portfolios to shrink considerably when the economy is struggling. Other risks can apply, too, such as companies being delisted from exchanges. According to a report from McKinsey, the number of publicly traded companies in the U.S. dropped from about 5,500 in 2000 to about 4,000 in 2020.
Another downside of stocks, depending on your strategy, is that many of them don’t pay dividends. For those stocks, there are no returns until they are sold, leaving their investors with no income in the meantime.
Pros
- Can have high returns
- Some stocks pay regular dividends
- Common stock comes with voting rights
Cons
- Risk level can be high
- Many stocks don’t pay dividends, forcing investors to rely on stock price increases
Investing in Fixed Income vs. Equity
Both fixed-income investments and equities both have their pros and cons. However, this doesn’t mean that one is right for one type of investor, and the other is right for another type of investor. Both can serve a purpose for nearly any investor, but the role each plays within your portfolio may vary depending on your situation and overall strategy.
For example, equities can have a higher potential for big returns than fixed-income investments, but they may also be riskier. These considerations mean they tend to be more favorable for younger investors who have more time to wait out the volatility. But even younger investors may want to invest in some fixed-income securities to reduce their portfolio’s volatility.
Similarly, fixed-income securities tend to be suitable for investors who are retired or nearing retirement. This is because they make consistent and predictable interest payments. Older investors usually don’t have the years to wait out the ups and downs. However, even retired investors may want to keep some of their portfolio invested in stocks.
Bottom Line
Fixed-income securities and equities are popular investments with millions of investors in the United States. Fixed-income investments pay regular interest and tend to have less risk, making them favorable to risk-averse investors.
Equities, on the other hand, can have high returns, but also tend to be riskier. In addition, equities often do not pay regular interest. Given their pros and cons, both investments can have their place in your investment portfolio.
Tips for Investing
- Deciding how to allocate your portfolio isn’t always easy. A financial advisor can help you put together an investment strategy to reach your goals.And finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors who serve your area. Plus, you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Unsure how much your investments will grow over time? Try SmartAsset’s free investment calculator to estimate how much you will have in 10, 15 or 20 years. Whatever your time horizon might be, it’s important to know where you stand.
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