Investing can be fearsome, especially for beginners and soon-to-be retirees, because of the risk involved. Putting your money in the market means you can lose some or all of your money with no indication of when you can make up for those losses. That’s why it is important to balance your portfolio with lower-risk assets. But fixed-income investments can be the one way to do that.
What are Fixed Income Investments?
Fixed Income investments are a type of investment that provide a steady income or dividend payments until their maturity date. At maturity, investors are repaid the principal amount they had invested. Government and corporate bonds are the most common type of fixed-income products.
For example, a company might issue a 5% bond with Rs 8000 that will mature in five years. The investor buys the bond for Rs 8000, and they will be paid back at the end of the five years. Over the five years, the company has paid interest payments called coupon payments. Based on a rate of 5% per year. As a result, the investor is paid Rs 400 per year for five years.
At the end of the five years, the investors are repaid the Rs 8000 invested initially on the maturity date. Investors may also find fixed-income investments that pay monthly, quarterly, or semiannual coupon payments. Fixed income can help preserve wealth and generate a steady source of income as a support system for your financial future. In general, fixed-income investments are a good choice for investors who want to be on the safe side. However, there are some advantages and risks of a fixed-income investment scheme that you must know before investing.
Benefits of Fixed Income Investments
Depending on your financial goals. Fixed-income investments can offer many potential benefits, including:-
1. Diversification from the stock market:- Fixed income is mainly understood to carry lower risk than stocks because fixed-income assets are generally less sensitive to economic risks, such as economic downturns and geopolitical events.
2. Capital Preservation:- Capital preservation means protecting the absolute value of your investment via assets with a stated objective of return of principal.
Investors who are close to retirement may rely on their investments to provide income. However, you should be mindful of inflation risks, which can cause your investments to lose value over time.
3. Income Generation:- Fixed income investment can help you generate a steady source of income. Investors receive a fixed amount of income at regular intervals through coupon payments or partial payments.
4. Total Return:- Some fixed-income assets offer the potential to generate attractive returns. Investors can seek higher returns by assuming more Credit or interest rate risks.
Risk Associated With Fixed Income Investments
There are Four major risks associated with fixed-income they are:-
1. Interest rate risk:- When Internet rates rise, the bond price will also fall, which means that bonds you hold lose value. Therefore interest rate movements are the major cause of price volatility in bond markets.
2. Inflation risk:- Inflation is another source of risk for bond investors. Bonds provide a fixed amount of income at regular intervals. But if the inflation rate outpaces this fixed income, the investor may suffer a loss.
3. Credit risk:- If you invest in corporate bonds, you take on credit risk and interest rate risk. Credit risk (business risk or financial risk) is the possibility that an issuer could default on the debt obligation. If something like this happens, the investor may receive a partial value of their invested amount.
4. Liquidity Risk:- Liquidity risk is the chance that an investor might want to sell a fixed-income asset but cannot find a buyer. In this situation, the spread between sellers increases.
Spread means the chances of selling your asset. The asking amount of the buyer can be lower, whereas the seller wants to sell its asset at a high price. It increases the risk of liquidity.
Fixed-income investments are considered safer than the stock market as the risk is lower in fixed income. However, factors including inflation, liquidity, Credit and interest risk, and the price of competing assets may affect the cost of their market capitalization, leading to investment risk. Therefore investors should check the potential threat before starting to invest.