Expert advice from Stephen H Akin, Akin Investments a Registered Investment Advisor. Posts and ideas as featured By: The Bond Buyer, Time Next Advisors, Fortune, Forbes and more...
Types of Fixed Income Investments
Bonds trade over-the-counter in the bond market and secondary market.
The most common government securities are those issued by the U.S. government and are generally referred to as Treasury securities. Fixed-income securities are offered by non-U.S. governments and corporations, as well.
Here are common types of fixed income products:
Treasury bills are short-term fixed-income securities that mature within one year and that do not make coupon payments. Investors buy the bill at a price less than its face value and earn that difference at maturity.
Treasury notes have maturities between two and 10 years, pay a fixed interest rate, and are sold in multiples of $100. Throughout the note's term, investors receive semiannual interest payments. At maturity, they're repaid the principal.
Treasury bonds function similarly to the T-note except that they mature in 20 or 30 years. Treasury bonds can be purchased in multiples of $100.
Treasury Inflation-Protected Securities protect investors from inflation. The principal amount of a TIPS bond adjusts with inflation and deflation.
A municipal bond is similar to a Treasury as it is government-issued, but it is issued and backed by a state, municipality, or county, instead of the federal government. It is issued to raise capital to finance local expenditures. Muni bonds can offer tax-free benefits to investors, as well.
Corporate bonds come in various types, and the price and interest rate offered largely depend on the company’s financial stability and creditworthiness. Bonds with higher credit ratings typically pay lower coupon rates.
Junk bonds—also called high-yield bonds—are corporate issues that pay a greater coupon due to a higher risk of default. Default occurs when a company fails to pay the principal and interest on a bond or debt security.
A certificate of deposit or CD is a fixed-income vehicle with maturities of less than five years offered by financial institutions. The rate is higher than a typical saving account, and CDs carry FDIC or National Credit Union Administration (NCUA) protection.
Investing in Fixed Income, Pros and Cons
Pros
Steady income stream of fixed returns
More stable returns than stocks
Higher claim to the assets in bankruptcies
Government and FDIC backing on some
Cons
Returns are often lower than other investments
Credit and default risk exposure
Susceptible to interest rate risk
Sensitive to Inflationary risk
Credit Spreads
Getting Tighter Credit spreads this year tightened to their lowest point in roughly two decades on strong investor demand and economic data.
In order to add capital to the balance sheet for future refinancing needs and other initiatives, companies issued debt at levels not seen since the pandemic this year, taking advantage of favorable financing conditions.
Credit spreads, a parameter that finance chiefs monitor when determining when to initiate a bond sale, are the driving force behind the spike in debt issuance. Throughout 2024, that measure—the extra amount that businesses pay above a Treasury of a comparable maturity—tightened, reaching year-end levels not seen since at least the mid-2000s.
Companies have taken advantage. Investment-grade companies, in particular, have issued debt to address both near-term and future refinancing, as well as strategic projects, analysts said. Companies have been able to earn high yields on the cash they put on their balance sheet, providing an additional incentive.
The professional-services company Accenture, for example, sold an inaugural $5 billion bond issuance in October, while Meta’s $10.5 billion offering in August was the company’s largest bond sale on record.
Investment-grade companies issued $1.662 trillion in debt this year through Dec. 10, up 27% from the same period a year earlier and the most since 2020, according to financial data provider Dealogic. Excluding financial institutions, companies issued $917.7 billion in debt, up 27% from a year earlier.
Fixed Income Laddering
Investors can also use a laddering strategy when investing in fixed income. A laddering strategy offers steady interest income that arises from investing in a series of short-term bonds with different maturities.
Then, as bonds mature, the portfolio manager reinvests the returned principal into additional short-term bonds with maturities that extend the ladder. This method provides investors with ready capital and they avoid losing out on rising market interest rates.
Laddering Example
For example, a $120,000 investment could be divided into one-year, two-year, and three-year bonds. The investor decides to invest $40,000 into each of the three bonds.
When the one-year bond matures, the $40,000 principal will be rolled into a bond maturing one year after the original three-year holding. When the second bond matures those funds roll into a bond that extends the ladder for another year, and so on. In this way, the investor receives a constant flow of interest income and can take advantage of any higher interest rates.
Are You Approaching the age of 73 for Retirement Plan Required Minimum Distributions (RMDs)
The Fixed income strategies discussed here are an effective way to manage your retirement
funds as you begin to take the IRS Required Minimum Distributions.
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