The Magazine for Asian Investors
An old cliché describes stocks of any kind as a risky investment. Bonds on the other hand, especially first-class bonds are considered a safe investment. But to what extent does this perception correspond to reality?
Let’s check the fundamentals.
The case that bonds are unsafe:
Let’s look at the benchmark, the U.S. 10-year Treasuries. The 10-year Treasuries have been at a low level for quite some time. At the moment at about 1.2% and that in a currency that according to the government depreciates every year with 4.5%. This means that the government promises that your purchasing power will decrease by 3.3% per year for the next 10 years. So it is certain that you will get less money back.
I would classify this investment as a safe loss.
Of course, this calculation can be reversed if the yields on the bonds rise again. Let’s say to 10-12%. The last time we had this case was in the 80s.
In addition, a bond is also considered unsafe if interest or principal payments are not made.
Now let’s look at equities.
The case that equities are safe:
Here one should draw a clear line between an investor and a speculator. In our case we want to look at the side of the investor who prefers to invest in common stocks. If an investor has done his homework and has stocked his portfolio with a reasonable number of very well selected common stocks that can deliver above average returns over a fair number of years, then this investment can be considered safe.
The case that equities are unsafe:
Of course, one should always pay attention to the margin of safety with stocks. The whole calculation can backfire if you have bought shares too expensive over value. Therefore, it is important to consider the margin of safety.
Not to be confused with common price fluctuations. Price fluctuations can have negative effects if one is forced to sell shares below the purchase price in times of a market downturn. On the other hand, the market can also develop positively, and the equity can be sold far above the purchase price. In this case, the investment can be considered risky and safe at the same time. Which can lead to a lot of confusion.
Another case can occur if the dividends fall, although one has firmly expected constant dividends. In this case, equity shares can also be classified as unsafe.
The worst case:
A different case is when you are forced to sell your shares when the market is in a downturn. This risk can exist in all investments regardless of the type of investment. In this case, bonds as well as shares are to be classified as risk.