Debt Market vs Equity Market: An Overview
Debt market and equity market are general terms for two categories of investments that are bought and sold.
The debt market, or bond market, is the arena in which loan investments are bought and sold. There is no single physical exchange for bonds. Transactions are mainly carried out between brokers or large institutions, or by individual investors.
The stock market, or stock market, is the arena in which stocks are bought and sold. The term encompasses all markets such as the New York Stock Exchange (NYSE), Nasdaq and London Stock Exchange (LSE), and many others.
The stock market is considered inherently risky while having the potential to generate a higher return than other investments.
Investments in debt securities generally involve less risk than equity investments and offer a lower potential return on investment. Debt investments by nature fluctuate less in price than stocks. Even if a company is liquidated, the bondholders are the first to be paid.
Bonds are the most common form of debt investment. These are issued by corporations or the government to raise capital for their operations and usually carry a fixed rate of interest. Most are unsecured but are rated by one of many agencies such as Moody’s to indicate the likely integrity of the issuer.
Risky real estate and mortgage-backed debt
Real estate and mortgage investments are other major categories of debt instruments. Here, the underlying asset securing the debt is real estate known as collateral. Many real estate and mortgage-backed debt securities are complex in nature and require the investor to be aware of their risks.
The changing value of fixed rate bonds
It is reasonable to ask why a fixed rate investment can change in value. If an individual investor buys a bond, it will periodically pay a fixed amount of interest until it matures, and then can be redeemed at face value. However, this bond could be resold on the debt market, called the secondary market.
The bond retains its face value at maturity. However, its actual return, or net profit, to a buyer is constantly changing. He loses the return of the amount that has already been paid in interest. The investment value increases or decreases with the constant fluctuations of the current interest rates offered by newly issued bonds. If the interest rate of return on the bond is higher than the prevailing rate, and the bond has a reasonable time to maturity, the value may be at par or above face value.
Thus, on the secondary market, the bond will sell at a discount to its nominal value or a premium to its nominal value.
Equity, or shares, represents a share of ownership in a business. The owner of a participation can benefit from dividends. Dividends are the percentage of company profits that accrue to shareholders. The shareholder can also profit from selling the stock if the market price were to rise in the market.
The owner of a stake can also lose money. In the event of bankruptcy, they can lose the entire stake.
The stock market is volatile by nature. Stocks can experience large price fluctuations, sometimes having little to do with the stability and reputation of the company that issued them.
Volatility can be caused by social, political, governmental or economic events. A large financial industry exists to research, analyze and predict the direction of individual stocks, stock sectors and the stock market in general.
The stock market is considered inherently risky while having the potential to generate a higher return than other investments. One of the best things an equity or debt investor can do is educate yourself and speak to a trusted financial advisor.
Key points to remember
- In the stock market, investors and traders buy and sell stocks.
- Stocks are stakes in a company, purchased to profit from the company’s dividends or the resale of the shares.
- In the debt market, investors and traders buy and sell bonds.
- Debt securities are basically loans that earn interest to their owners.
- Stocks are inherently riskier than debt and have greater potential for large gains or losses.