Bonds (or fixed-income investments) can be a good choice for investors looking to keep money safe for a short period of time. Over the long term, though, I think there’s no question that the FTSE 100 is a better bet.
Right now, a UK government bond (known as a gilt) with a 10-year duration has a yield of 3.8%. That means that someone investing £1,000 today would get back £1,452 a decade from now.
The average return from the FTSE 100, on the other hand, is around 6%. Investing £1,000 for 10 years at this rate of return results in an investment worth £1,790.
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I’ve been buying some bonds recently. But I think that stocks are a better bet when it comes to building wealth over time.
Bonds
At the start of this month, I had money in my account that I intended to use to pay off a bill later in the year. As a result, I was looking to earn a return on that cash for a few months.
I decided to use it to buy some gilts that mature in September. The bonds have a yield to maturity of around 4%, so unless the UK government defaults on its obligations, that’s what I’ll make.
Since I’m going to need the money later in the year, putting it in the stock market is risky. If the market went down sharply, I might not be able to get my investment back when I needed it.
With the bonds I’ve bought, I don’t need to worry about market volatility. As long as the issuer doesn’t default, I’ll get the return I’m expecting.
This makes fixed-income investments a good place to keep money for the short term. It’s why Warren Buffett keeps cash for Berkshire Hathaway in short-term government bonds.
Over the long term, though, I don’t think think that bonds are a good choice. When it comes to building wealth, I’d much rather own stocks.
FTSE 100 stocks
Unlike bonds, shares don’t pay fixed returns. This means that their returns can go down, but it also means that returns from strong businesses can increase over time.
This makes stocks more risky than bonds. But in the case of the FTSE 100, it has historically made them much more rewarding and this has made a big difference in the long run.
Someone who invested £1,000 per month for 30 years at an average annual return of 3.8% would have an investment worth £665,300. That’s not bad, but FTSE 100 shares tend to do much better.
By contrast, earning a 6% return on a £1,000 monthly investment results in £980,500 after 30 years. The increased risk of owning equities has tended to pay off over time.
I don’t think that every FTSE 100 stock is likely to do well. I expect much better returns in future from Experian and Rightmove than I do from International Consolidated Airlines Group and Hargreaves Lansdown.
In general, though, I think that having a portfolio of shares in strong businesses will produce better returns than bonds over long periods of time. That’s why I prefer stocks as long-term investments.
