Investing in Fixed Income

Investing in Fixed Income

Over the past few years, there has been a lot of attention drawn to fixed-income investments due to the change in interest rates in such a short period of time. Investments like bonds have ridden on the coattails of all this attention as investors have looked for ways to take advantage of these rate increases.

Don’t let events like the collapse of Silicon Valley Bank deter you from investing in fixed-income assets either. As you may recall, SVB happened to be heavily invested in fixed-income assets, but when the value of these bonds dropped, they didn’t have enough assets left to cover all the customer withdrawals.

This, however, is not even the slightest bit typical for investing in such assets, so don’t be deterred if you have been thinking about investing in these assets. But first, you may have some questions you need answered, so let's tackle a few of these today.

What is Fixed Income?

First, what are fixed-income investments anyway? Well, as the name implies these are securities that provide the investor with a stream of steady cash flow, either through interest or dividend payments, for as long as the individual holds the security ─ or until the maturity date (1).

Some of the most common types of fixed-income securities are government and corporate bonds, which upon maturity, the investor is then repaid the principal amount, or the amount they paid to own the investment.

These are very different from equity investments or variable-income securities. In regards to equity investments, these securities may not pay any income at all, however, the investment can appreciate over time for various reasons. With respect to variable-income securities, the amount of income paid could fluctuate over time based on some underlying reason, such as short-term interest rates increasing or decreasing.

Fixed-income investments come with the benefit of knowing the payments amounts in advance, as well as the assurance that those payments being fixed, not subject to change.

In their most common form, government and corporate bonds are debt instruments these institutions use in order to raise money for a wide variety of reasons, like funding day-to-day operations and to finance major projects. In much the same way credit card companies collect interest off the debt you owe them, these government or corporate entities pay you interest in the debt you own. Not only do you receive interest payments until maturity of the bond, you also are repaid the principal amount you paid to own that debt security.

Think of yourself as the credit card company. This is why these securities are called fixed income. The amount of income you receive doesn’t change for the life of the investment.

As an example, a bond may be issued with a coupon rate of 6% and a maturity date of 5 years. If the face or par value of that bond is $1,000 then the investor that owns that bond should expect regular payments of $60 per year until the principal amount is repaid upon maturity of said bond (2). There are bonds that pay interest more frequently than yearly, such as monthly, quarterly, as well as semiannually.

Not only can investors purchase these investments directly through buying various types of bonds, they can also invest in them indirectly through exchange-traded funds (ETFs) and mutual funds (3).

There are a wide variety of ETFs and mutual funds that buy these debt securities and package them into funds. This way, they can be bought and sold over in the stock market, which can allow the investor to have a bit more control and liquidity over their initial investment.

In addition to bonds and bond ETFs and mutual funds, there are other types of fixed-income securities.

Instruments like fixed annuities and certificates of deposits, otherwise known as CDs (4), although they are not as common as investing in bonds directly or ETFs or mutual funds that hold government or corporate bonds.

Why Invest in Fixed Income?

Fixed income is popular among conservative investors that value things like stability and income over capital appreciation. For investors with lower risk tolerance, those investing for retirement for example, fixed-income securities provide them with a way to use their nest egg in order to generate income at a time when they are no longer in the workforce.

When investors have less time to recoup losses, they tend to look for investments that provide a good deal of capital preservation. That is in large part what makes these investments popular among more seasoned investors (5).

During times of economic slowdowns, layoffs, and even stock market bear markets, it's sometimes helpful to have a little extra income coming in from somewhere. If you have a full-time job, fixed-income securities can be helpful for that little extra padding on your salary. For those in retirement, it could be even more helpful when you no longer receive a salary like that of what you used to.

That is one of the reasons why a retirees asset allocation tends to be more skewed toward fixed income rather than the more aggressive split an investor just starting out may have. An aggressive investor, early on in their investment journey, may have an asset allocation of 90% stock and 10% bonds or other types of fixed-income securities.

While much of that allocation is not personalized since it is managed by some other party, that is a portfolio typically geared for a risk-on or growth approach. When you need stability and capital preservation, that ratio could even out to a more 60% stocks vs 40% fixed-income, it all depends on your goal as an investor.

What if you could personalize that portfolio though? What would your goals drive your asset allocation to be? You could find out here and see what you would buy if you had total control of your own portfolio’s asset allocation.

How to Invest in Fixed Income?

Investing in fixed-income securities is easier than many investors realize. There are a wide variety of investments that make payouts to the holders of these securities. One of the most common would be stocks that pay dividends, as a strategy of investing the likes of Warren Buffett and others have made a staple of their portfolios.

Perhaps the most popular method of adding fixed-income exposure to your portfolio is through bonds, either government or corporate, but not every brokerage out there gives investors access to these investments. For that there are plenty of bond ETFs you can look for on the open market.

Knowing what securities to buy is one thing, but knowing where you can buy them is another. You have to know where to look in order to get access to these ETFs, as well as other fixed-income assets, like mutual funds.

Magnifi can help you there. Take a look at a couple of the searches below and see what you find. Who knows, it could even end up being a part of your portfolio!

References:

1. “Maturity: Definition, How Maturity Dates Are Used, and Examples”, April 18, 2022, investopedia.com, https://www.investopedia.com/terms/m/maturity.asp
2. “What Is a Bond?”, April 21, 2023, financestrategists.com, https://www.financestrategists.com/wealth-management/bonds/
3. “5 types of fixed-income investments that can protect your wealth and generate income”, July 21, 2022, businessinsider.com, https://www.businessinsider.com/personal-finance/what-is-fixed-income-investing
4. “Guide to Fixed Income: Types and How to Invest”, May 2, 2023, investopedia.com, https://www.investopedia.com/terms/f/fixedincome.asp
5. “What is fixed income investing?”, blackrock.com, https://www.blackrock.com/us/individual/education/fixed-income

Disclosures:

The information and data are as of May 26, 2023 unless otherwise noted and subject to change. This blog is sponsored by Magnifi.

This material is provided for informational purposes only and should not be construed as individualized investment advice or an offer or solicitation to buy or sell securities tailored to your needs. This information covers investment and market activity, industry, or sector trends, or other broad-based economic or market conditions and should not be construed as investment research or advice. Investors are urged to consult with their financial advisors before buying or selling any securities. Although certain information has been obtained from sources believed to be reliable, we do not guarantee its accuracy, completeness, or fairness. Past performance is no guarantee of future results. This content may not be reproduced or distributed to any person in whole or in part without the prior written consent of Magnifi. As a technology company, Magnifi provides access to tools and will be compensated for providing such access. Magnifi does not provide broker-dealer or custodial services.

Fixed income securities are subject to increased loss of principal during periods of rising interest rates. Fixed income investments are subject to various other risks, including changes in credit quality, liquidity, prepayments, and other factors. REIT risks include changes in real estate values and property taxes, interest rates, cash flow of underlying real estate assets, supply and demand, and the management skill and creditworthiness of the issuer.

Mutual Funds and Exchange Traded Funds (ETF’s) are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from the Fund Company or your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

Fixed Annuities are long term insurance contacts and there is a surrender charge imposed generally during the first 5 to 7 years that you own the annuity contract. Withdrawals prior to age 59-1/2 may result in a 10% IRS tax penalty, in addition to any ordinary income tax. Any guarantees of the annuity are backed by the financial strength of the underlying insurance company.

Asset Allocation does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.