Stocks and Bonds

Stocks

Own a share or piece of a business.
An investor makes money 2 ways:
- appreciation in price of stock.
- dividend - a way for company to give a portion of earnings to shareholders.
Benefit: unlimited upside.
Drawback: unlimited downside - can go to zero.

Video defines risk as price volatility.
- does this make sense?
Video suggests trading is the same as investing.
- how does TD Ameritrade make money?

Bonds

A loan given to a company or government.
An investor makes money 2 ways:
- appreciation in price of bond.
  - if interest rates fall.
- periodic coupon payments (interest rate).
Benefits: preserve capital; generate income.
Drawback:
- default risk: company could go bankrupt.
- interest rate risk: if interest rates rise price of bond falls.

Returns of Stocks vs Bonds

$1,000 invested 68 years ago would now be:
- S&P 500 (US) Index CAN $ = $1,844,881
- Canada Gov Bonds over 10 yr = $71,642
- Canada 3 Month T-Bills = $28,341
- Canadian CPI (Inflation) = $10,734

over the long term (the time horizon to focus on when young) the top investment by far has been a basket of US stocks which delivered an average annual return over 68 years of 11.7%.
This makes sense. If the US economy prospers then investors in US stocks will also prosper.

(1) The S&P/TSX return of 9.0% is for the last 38 years (it has only been calculated since 1979). The return for a basket of US stocks over this same time frame was 12%.

Inflation

When prices on normal items move higher over time. Caused by increase in quantity of money.
Measured by consumer price index (CPI): calculated on basket of goods
Current CPI rate in Canada? 3.0% (July 2018)
Why is it bad?
- Erodes purchasing power over time.
Minimum goal for investors: grow value of investments at a greater rate than CPI
Real rate of return = nominal rate - inflation rate

Risk free rate of return: Government 10 yr bond

Benchmark used to compare investments.
Yield Canada Gov 10 yr bond = 2.28% (Aug 30)
- this is the nominal rate of return (yield).
- inflation = 3.0%
- real rate of return = - 0.72% (yes, negative!)
Hard to see how an investor will become more wealthy buying 10 year Government of Canada bonds at current prices.
At current prices (where you are getting paid a negative real return) are 10 year GofC bonds a safe purchase? Solution: if you have to hold bonds keep your duration short (1 or 2 year).

Bond Example:

Face Value = $1,000
Maturity = 10 years
Coupon Rate (interest) = 5% = $50

Stocks

​

Own a share or piece of a business.

An investor makes money 2 ways:

appreciation in price of stock​.

dividend - a way for company to give a portion of earnings to shareholders.

Benefit: unlimited upside.

Drawback: unlimited downside - can go to zero.

​

Video defines risk as price volatility.

does this make sense?​​

Video suggests trading is the same as investing.

how does TD Ameritrade make money?​

Bonds

​​

A loan given to a company or government.

An investor makes money 2 ways:

appreciation in price of bond.

if interest rates fall.

periodic coupon payments (interest rate).

Benefits: preserve capital; generate income.

Drawback:

default risk: company could go bankrupt.

interest rate risk: if interest rates rise price of bond falls.

Returns of Stocks vs Bonds

​

$1,000 invested 68 years ago would now be:

S&P 500 (US) Index CAN $ = $1,844,881​

Canada Gov Bonds over 10 yr = $71,642

Canada 3 Month T-Bills = $28,341

Canadian CPI (Inflation) = $10,734

​

over the long term (the time horizon to focus on when young) the top investment by far has been a basket of US stocks which delivered an average annual return over 68 years of 11.7%.​

This makes sense. If the US economy prospers then investors in US stocks will also prosper.

​

(1) The S&P/TSX return of 9.0% is for the last 38 years (it has only been calculated since 1979). The return for a basket of US stocks over this same time frame was 12%.

Inflation

​

When prices on normal items move higher over time. Caused by increase in quantity of money.

Measured by consumer price index (CPI): calculated on basket of goods

Current CPI rate in Canada? 3.0% (July 2018)

Why is it bad?

Erodes purchasing power over time.

Minimum goal for investors: grow value of investments at a greater rate than CPI​

Real rate of return = nominal rate - inflation rate

Risk free rate of return: Government 10 yr bond

Yield Canada Gov 10 yr bond = 2.28% (Aug 30)

this is the nominal rate of return (yield)​.

inflation = 3.0%

real rate of return = - 0.72% (yes, negative!)

Hard to see how an investor will become more wealthy buying 10 year Government of Canada bonds at current prices.

At current prices (where you are getting paid a negative real return) are 10 year GofC bonds a safe purchase? Solution: if you have to hold bonds keep your duration short (1 or 2 year).

Bond Example:

​

Face Value = $1,000

Maturity = 10 years

Coupon Rate (interest) = 5% = $50

​

Investor will receive payment of $50 each year and at end of 10 years original investment will be returned.

appreciation in price of stock.

does this make sense?

how does TD Ameritrade make money?

S&P 500 (US) Index CAN $ = $1,844,881

over the long term (the time horizon to focus on when young) the top investment by far has been a basket of US stocks which delivered an average annual return over 68 years of 11.7%.

Minimum goal for investors: grow value of investments at a greater rate than CPI

this is the nominal rate of return (yield).