Debt securities are issued by entities and backed by the payment ability of the issuing company. Equity securities are held by shareholders of an entity who realize return in the form of capital stock.
About debt securities: Debt securities are basically loans made by investors to the entity issuing them, which could be either a corporation or government. Bonds, treasury notes, and debentures are some of the types of securities. It is the obligation of the issuing entity to pay coupons every few months and return the principal amount when it matures. Debt securities are viewed as less risky than equity, but they usually have lower returns.
About equity securities: Common or preferred stock is an example of ownership in a company. Potential capital appreciation and dividends are benefits that shareholders may experience. Equity securities are riskier because returns are influenced by the company's performance and there is no guarantee of repayment.
Characteristics of Debt Securities:
- Regular interest payments are provided by predictable income, which makes them a stable source of income.
- Generally, it is considered safer than equity securities because they are prioritized for repayment in the event of the issuer's bankruptcy.
- The principal amount is returned at maturity for many debt securities (such as government bonds), ensuring capital preservation.
- The risk of overall portfolio is reduced by diversification by balancing more volatile investments like stocks.
Characteristics of Equity securities:
- Unlike debt, equity has the potential for a higher return through share price appreciation and dividends, unlike debt.
- Shareholders are given a portion of ownership in a company and have the right to vote in certain decisions.
- Over the long term, equities have a tendency to perform better than inflation, making them an inflation hedge.
- As a business develops, equity holders receive direct benefits from increased profits through capital gains and dividends.
