Stocks Vs Bonds, How To Allocate You Portfolio

In the Financial Markets, the decision over whether to invest in Stocks or Bonds has been an age-old discussion, with many valid points being brought from both sides. Of course, an efficient portfolio should consist of a healthy mix of the two, but then to what degree.

Well the answer is more complicated than you might think. When it comes to allocating a fixed ratio of stocks and bonds in an investors portfolio there is unfortunately no fixed number. Many investors claim a simple 50:50 split would make the most sense, while others argue that a higher degree of either stocks or bonds would help benefit the investor. Below, we will be examining the 2 scenarios’ pros and cons and choose which one might be more appropriate for which investor.

1) A Stock Centred Portfolio

The common arguments between stocks and bonds are that they essentially a trade off between risk and reward. Stocks are more volatile and will thus yield more of a reward for the investor, while bonds offer a safer, fixed income solution. However, is this true? While there is no doubt stocks are far more volatile than bonds (measured through their variance and other parameters), are they really more risky than bonds? And does that apply to all stocks?

Forbes makes an argument for stocks actually being a relatively safer investment than bonds, by essentially comparing the benchmarks of each of the investment instruments (The S&P 500 & Bloomberg Barclays US Aggregate Bond Index), indicating the stocks offer a higher return at not much of a risk at all. The primary reason is that markets are known to rebound even after great losses, specifically index stocks, and if the investor is patient enough, they are sure to get a suitable reward. These arguments make a higher degree stock portfolio ideal for investors in their younger years, not relying on a fixed income, as an opportunity to earn more money by investing. It is also a good choice for individuals who happen to have some idle cash which they would like to invest and do not require immediately.

2) A Bond Centred Portfolio

Looking at the argument above, why should anyone choose a portfolio with a higher ratio of bonds. They seem to offer less return at a similar level of risk. Well there are 2 primary reasons, liquidity and time. In the argument discussed above, we suggest that even if the stock market goes through a bad few years, history has indicated that it will pick itself up at some point of time.

But what if you don’t have that time. While a young investor wouldn’t worry about waiting say 10 or even 20 years for his investments to grow back and beyond their value, a more experienced investor may not have that luxurious time. He might want his income now as he requires it for his retirement. In such a case, bonds offer a more stable solution. They can be considered more suitable too because they offer a fixed income rate, so if your life is dependant on that income you are sure to obtain it, unlike stocks in which the firm makes the decision of how much dividend to pay, if any at all. Thus, for individuals who really depend on the income and for the more experienced and elderly, it is advisable to invest in a higher bond ratio portfolio.