Are You a Stock or Bond?

A friend of mine spoke to me last week on the losses he has incurred by investing into Oil & Gas (O&G) related stocks. Needless to say, O&G sector has been disappointing with companies registering losses or weakening profitability as a result of the plunge in oil prices. Big player such as Bumi Armada has also been suffering.

Upon further "investigation" into his rationale behind the O&G stocks’ investments, he shared with me a finance theory that he has learnt from an investment course.

I will elaborate slightly more for ease of understanding.

Are You a Stock or Bond?

If Mr.X derives salary from a job with stable employment prospect, he can be considered more “bond-like”, a safe job that resembles a high quality bond. A bond is simply a borrowing instrument issued by borrower and in exchange for the borrowing sum; the lenders will be paid a fixed interest return in most instances. The stable salary received could be similar to the regular interest income received by the lender.

According to the theory, Mr.X can invest more in stocks and take more risk in his investment portfolio to balance the conservative nature of his job.

On the other hand, Mr.Y is working on commission-based job and his income can be ‘volatile’, hence Mr.Y is considered to be more “equity-like”. In this case, he might want to invest more into low-risk bond investment or holding more liquid assets.

What about My Friend?

My friend is a “bond” since he is receiving stable salary. Armed with the finance theory, he invested into equity to optimise his wealth position and hopefully, equity could deliver more and “faster” return to complement his salary.

Although the theory makes sense to certain extent, my friend should not have hastily invested into O&G stocks during the bullish period of O&G sector for the sake of optimising his wealth position.

Until today, he is not happy with his portfolio performance as I suspect the O&G stocks that he hold would have given him NEGATIVE returns. Instead of building wealth, the equity position might have reduced his networth.

Moral of the Story?

Always make investment decision based on a sound framework and objective. 

If my friend had invested into good company in a growing industry, perhaps the financial capital or POSITIVE return generated would have complemented his quest towards wealth building!