Stocks or bonds: Three views from Wall Street experts

Dalio warns of a double threat

Billionaire investor and Bridgewater Associates founder Ray Dalio has warned that rising U.S. government bond yields could create serious problems for the stock market. According to him, stocks have remained resilient thanks to growing corporate earnings, but this situation cannot continue indefinitely.

In an interview with CNBC, Dalio explained that investors compare the potential returns on stocks with those on bonds. Currently, 10-year U.S. Treasury bonds offer yields above 5% annually. This means that an investor purchasing $10,000 worth of bonds could expect to earn approximately $500 per year.

Stocks do not guarantee such returns. For example, if an investor buys $10,000 worth of stocks and their value rises by 8% over a year, the investor will earn $800, excluding dividends. But if share prices fall by 15%, the investment will shrink to $8,500. Bonds can also lose value if market interest rates continue to rise.

According to Dalio, stocks previously offered significantly higher expected returns than bonds. However, as stock prices and government bond yields rise, that gap is narrowing.

Dalio also advises investors to pay particular attention to companies' free cash flow. Even if a business reports growing profits, a significant portion of its earnings may be spent on building data centers, purchasing equipment, and other investments. As a result, the company has less cash available to repay debt, pay dividends, and cover other expenses.

However, Dalio does not expect an immediate stock market crash. He believes the tightening of financial conditions is only beginning, while corporate earnings continue to support the market.

Bonds challenge stocks for the first time in decades

Savita Subramanian, Bank of America's head of U.S. equity and quantitative strategy, partially agrees with Ray Dalio's warnings. However, unlike the billionaire, who expects the bond sell-off to continue, she sees bonds as an attractive alternative to stocks. According to her, debt securities can seriously compete with equities for the first time in several decades.

In an interview with Bloomberg, Subramanian noted that yields on 10-year U.S. Treasury bonds exceed 5%, while the S&P 500's average annual return over the next decade could fall below that level.

For example, investing $10,000 at an annual return of 5%, with earnings reinvested each year at the same rate, could grow to approximately $16,300 over ten years. Meanwhile, stock investment returns depend on share price appreciation and dividends, neither of which is guaranteed.

The analyst is particularly concerned about overly optimistic expectations for U.S. companies. Market participants are forecasting record earnings growth for S&P 500 companies over the next five years. However, if actual results fall even slightly short of expectations, stocks could face a sell-off.

Subramanian also highlighted the impact of artificial intelligence. Investment in AI is supporting technology stocks, but over the longer term, the technology's development could help slow inflation. This, in turn, could ease pressure on interest rates.

Taleb warns of a hidden threat to markets

While Dalio and Subramanian discuss the attractiveness of stocks and bonds, Nassim Taleb, author of The Black Swan, draws attention to another threat. He believes the growing vulnerability of the U.S. bond market could trigger turmoil that would also affect stock markets, Bloomberg reports.

Speaking at the Greenwich Economic Forum, Taleb warned that the U.S. needs to borrow increasingly large amounts of money to finance its budget deficit. At the same time, investors could lose interest in government bonds, particularly long-term securities. Weaker demand would push bond prices lower and yields even higher.

Taleb sees a greater danger not in reduced purchases by China or Japan, but in a potential retreat by American investors. If pension funds and other major holders begin selling long-term government bonds, the consequences for the market could be significantly more severe.

Problems in the bond market could also affect stocks. For example, if bond yields continue to rise, companies will face higher borrowing costs when issuing debt securities. This would increase debt servicing expenses and could force businesses to cut investment. At the same time, investors might begin selling stocks in favor of instruments offering higher fixed yields.

Taleb advises investors not to try to predict the timing of the next crisis, but to account for the possibility of unexpected shocks when building their portfolios. In his view, even a market that appears stable can be vulnerable to an event that cannot be predicted in advance.

What should investors choose?

If an investor's main goal is to preserve capital and earn predictable income, U.S. government bonds appear to be a more suitable option. This is especially true if they are held to maturity, allowing investors to look past temporary price fluctuations. Stocks, on the other hand, may deliver higher returns over the long term, but investors must be prepared for significant declines. At the same time, high bond yields make them increasingly attractive even to investors who previously preferred the stock market.

However, investors do not necessarily have to choose just one asset class. Combining stocks and bonds allows them to spread risk across different instruments, although both can lose value simultaneously during market turmoil. As the warnings from Dalio, Subramanian, and Taleb suggest, under current conditions, it is important to consider risks in both markets rather than count on guaranteed profits from either asset class.

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