Capital Markets: Should I invest in Growth Stocks or Fixed Income?
This is a question among the others that occur to us at least once a day from investors whether retail accredited investors or other ultra high-net-worth individuals. So how do we respond to these sorts of questions? At least the above is binary. Sometime it comes as vague as where/when should we invest? Every time I come across these two questions, I usually answer by asking a different one: How healthy are your finances? Can you afford to stash a few thousands of dollars on side every month without falling behind on other obligations? If so, how much? What is your investment objective? Are you more interest in current income or long term growth? Are you a conservative investor, a moderate risk taker or a speculator? After answering to a series of these questions, we then take into accounts all of these inputs before we layout any suitable investment plan. My go-to answer to the where/when question is to invest everywhere as long as the markets conditions are favorable and to start now no matter how small. Warren Buffet started small too.
Now in this article, I am going to touch the very original question. Where to put your spare money for investment after you have squared your monthly bills? Should you accumulate some shares in blue chip companies such as Apple, IBM, Boeing, Visa, Bank of America, Bralirwa, Bank of Kigali to name a few? Or, should you stash a portion of investment assets in fixed income corporate & treasury bonds such as AIG bonds, TransOcean, US Treasury Notes, Rwanda Government Bonds…, in real estate properties or sleep on it under the mattress?
Why not acquire both? Again the suitability guidelines change from individuals to others but the rule of thumbs is to acquire a portion of each asset class and build a diverse portfolio in a long-term investment time horizon. Question is, in which proportion?
Regardless of geographic location, whether shares are being traded on New York Stock Exchange, The Shanghai Exchange or at the Rwanda Stock Exchange, the models of these assets classes never change.
Buying stocks of a given company entitles the buyer a proportional ownership in that company’s common stock. For instance if one would buy 1 million shares of Bralirwa at the exchange, assuming Bralirwa’s total outstanding shares is 100 million shares, then that investor owns 1% of the company. She/he would have 1% vote in major company’s decisions.
And as the company’s business grows, she/he will be getting a dividend payment per share, most cases once every quarter in addition to the stock value accumulation based on the supply/demand model. Note, stocks are designed for growth of capital not for current income, so the rate of dividend will be small. Suppose if Bralirwa board decides to pay 2 FRW dividend per share every quarter, the investor would get 2 FRW times the number of the shares she/he purchased, in this article it’s a million shares.
Who should invest in stocks? I think everyone should at least in some extent. But investing in stocks have proven to be a model for relatively early to middle age working investors, since in a long run this has proven to return handsome hefty capital gains compared to other traditional investment classes. Those who are not depending on this investment to make ends meet will benefit from holding for a while. Stocks tend to go a lot higher in a healthy market in a long run.
Now how about fixed income? Such as bonds, real estate, bank certificates of deposits? Well this is also a good way to diversify your investment portfolio. Fixed income assets, bonds for instance, pay a fixed interest every 6 months. This rate depends on the safety and other terms of the bond issuer. Government bonds tend to be the safest of all than corporate bonds.
The reason is, in a perfect world, it’s assumed that the government will never fail to pay its obligations especially if the debts are denominated in its own currency, FRW for Rwanda. Therefore, people tend to trust governments with their money more than corporations.
Bonds come with a predetermined expiration date called maturity date. For instance a 10%, 10 years bond means the bond is a debt which will last 10 years from the purchase date. The issuer will be paying a 10% interest on a semi-annual distribution for 10 years and will return the principal investment to the investor at the very last tenth interest payment. For instance if you invest 1000 FRW in a 10 year 10% Rwanda treasury bond; this means, the government of Rwanda will be paying you 100FRW every year ( 50FRW/6months) for 10 years, and will return the 1000FRW back to you at the end of the 10th year. This is a very good investment plan for older retired individuals or anyone else looking for collecting current income while enjoying the preservation of capital.
So both assets classes are great depending on one’s investment objectives. They both carry some disadvantages. There is speculation and poor secondary markets performance for stocks for any given period of time. And for bonds, there come inflation risk, reinvestment risk, credit risks in case the issuer fails to pay that interest, etc.
So what which one is better? They both are good assets to hold, please mix both of them. The general simple rule of thumbs is to substract your age from 100 and what you get is the percentage of how much to put in stocks. The balance goes into fixed income i.e. bonds, real estate properties etc. So if you are a 40 years old investor, you should allocate 60% of your capital investments in stocks by acquiring shares in different companies and 40% in bonds and other fixed income. For 70 years old, 30% goes into stocks, while 70% goes in fixed income since they most likely need current interest income for retirement. Be advised to talk to investment professionals to get assistance with a personalized portfolio allocation since all of us have different levels of financial literacy.
Most of all have fun with it.