Fixed-income investing is terminology that describes investments that offer fixed interest or dividend payments. In most cases, this will have a date where it ends, also known as a maturity date.
Once the date has arrived, the inventors will receive the initial investment and the most common types of fixed-income investments are with governments and corporate bonds.
With a fixed-income investment, payments are known in advance. That isn’t the case with equities, which have variable-income securities.
What Is a Fixed Income
Large companies and governments will often issue debt securities. That is, they attract investors to give them money so they can fund their daily operations and help fund large projects.
For investors, this offers a sense of security with payments and their investments. Additionally, it will offer a set interest rate return in exchange for investors lending money. As soon as the maturity date arrives, they will receive a set payment, which was agreed upon in the initial stages, known as the principal.
Example Of A Fixed-Income Investment
To help you understand with literal figures, here is an example of a fixed-income investment. A company or government will ask for a 10% bond on a £5,000 investment with a maturity date of 3 years.
Across those three years, the company or government pays the investors 10% interest each year. So, in this scenario, the investor would receive an additional £500 each year. That would total £1,500 across those three years, and once the bond has met its maturity date, the investor would also receive their initial investment back from the company.
Who Should Investors Consider Fixed-Income Investments?
Many investors try to diversify their portfolios as much as possible. It ensures that they have regular income and growth within their portfolio. Fixed-income investments are something else that investors try to incorporate into their portfolios.
It is a great way to guarantee the initial investment back while receiving interest payments from the company/government. Additionally, some investors will aim to diversify their income investment with products and stocks.
Advantages of Fixed-Income Investing
Like many different investments, fixed-income investing has its positives and negatives. Firstly, let’s look at some of the advantages of fixed-income investments.
Income Generation
The first positive of this type of investment is that you have a steady source of income. If an investor has a steady source of income, they can plan their expenditure for the month and look at other ways to invest their money. Due to this, they are a common type of investment for those in retirement.
Usually Less Volatile
Another positive to this type of investment is that it is safe compared to other investments. Again, this is another reason why it is common in a retirement portfolio. It offers a stable increase that isn’t too extravagant however, if the value does decrease slightly, it won’t be by too much.
Provides Guarantees
The final positive to this investment is that T-Bonds, also known as treasury bonds, are backed by the US government. These are the safest type of fixed-income investments however, they offer very little growth but can guarantee a very stable income.
Another type of fixed-income investment is corporate bonds. These are backed by companies such as Tesla, Meta, and others. If the company you invested in claims bankruptcy, you have a higher claim of company assets than common shareholders.
Disadvantages Of Fixed Income Investments
Now, we are going to take a look at the negatives of a fixed-income investment. So before you start investing in these types of investments, read on to gather a true insight into the investment.
Credit and Default Risk
It is important to check the credit rating of a bond and the company before investing. Checking this is essential because you don’t want to invest in bonds lower than a BBB rating.
Several effects can happen to a company that can also affect the value of your bond. If a company is struggling at some stage, the valuation of the bond can decrease, and if the investor tries to sell the bond, it will likely sell for less. Additionally, if it is known that this company is going through a rough patch, the bond may become very difficult to sell.
There is no guarantee that an investor bond will remain at the same price, especially when investing in a company that is considered a junk bond. If an investor decides to sell their bond before the maturity date, the sell price could result in a gain or a loss. That all depends on the current market interest rate, coupon interest rate, and underlying corporation.
Interest Rate Risk
Interest rate risk means the potential losses on an investment. These will usually be triggered by a move upward in the prevailing rates. Due to this, the bond will lose value. Below is an example of interest rate risk to help give you a better understanding.
If an investor purchased a two-year bond paying 2.5% per year. If the interest rates jump up by 5%, the investor who invested when the bond paid 2.5% is fixed to that and doesn’t increase.
Inflationary Risks
Inflationary risks are another danger to those who consider fixed-income investments. If prices increase or inflation increases, the gains won’t be equally as good. For example, if your return is a 5% increase and inflation increases by 4%, the investor will miss out on 4%.
Final Opinions: Is Fixed-Income Investing Still Reliable?
On the whole, fixed-income investing can have its positives and negatives. However, fixed-income investing is affected by inflation. If you have a 5% interest rate over five years, you will likely lose interest because of inflation. Targeting shorter bonds over two years is a more logical approach to fixed-income investments.
When investing with fixed incomes, you need to ensure the company’s legitimacy. With governments, you will be much safer however, the interest rates won’t be that high. Again, check the bond rating to ensure security with your investment. There are many trading scams that can trick you into investing a large amount of money and may not return your initial investment.
