Stocks and bonds are the two fundamental investment vehicles. When you purchase stock in a company, you become a part owner. The company may or may not pay out dividends on its stock. Stocks are traded on an active market on one of several exchanges (the New York and American Stock Exchanges are the largest) or “Over the Counter” (OTC) on the NASDAQ. You buy a stock in the hope that its market price will go up so you can sell it at a profit. Each time you buy, and each time you sell, the broker takes a little something. Experienced investors can also go “short” a stock, profiting when the price goes down.
When you buy a bond you actually lend your money to the corporation or governmental body that issues the bond. Bonds are also traded on a speculative basis. They are rated as to safety. The safest bonds with the highest ratings pay the lowest rates. The riskier you get, the higher the possible returns.
Municipal bonds are offered by states, cities, administrative authorities and other governmental units. They pay lower rates than regular bonds, but they are free of either federal, state, or local taxation or all three, depending on the bond. Putting it simply, if a $1,000 bond paid $50 a year (5%) which was not taxed, and your tax bracket was 20% you would be saving $10 in tax (20% of $50) by having that tax free bond, so you would be making the equivalent of $60 or 6%. The higher your tax bracket, the more appealing this investment becomes. Municipal bonds have always been considered safe investments, but recent troubles with some of them have increased the need for caution.
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