Question

The value of common and preferred stock can be explained as being somewhat similar to that of bonds. Using this way of thinking, ______?

1) Common stock is like a B bond
2) Common stock is like an AAA bond
3) Preferred stock is like a B bond
4) Preferred stock is like an AAA bond

Answer 1

Preferred stock is like an AAA bond due to its lower risk and more predictable returns, while common stock is more volatile like a high-risk bond, both potentially yielding higher returns than a savings account.

Step-by-step explanation:

Considering the nature of stocks and bonds, the value of preferred stock can be explained as being somewhat similar to that of an AAA bond, due to their typically lower risk compared to common stock and higher predictability of income through fixed dividends. In contrast, common stock is more volatile in its returns, akin to that of a high-risk bond (though not precisely a B bond), given that returns depend significantly on the company's performance and market conditions. Both stocks and bonds have the potential to generate higher returns over time compared to a savings account, with stocks generally being the more volatile of the two and preferred stock sitting somewhat in between the two in terms of risk and return.