WHAT AND WHY OF FIXED INCOME SECURITIES
We hear Gen-Y or even Gen-Z talking about grinding in their 20s, building in their 30s and chilling in their 40s! With a dream of accumulating sufficient wealth to lead a comfortable life for the remainder of their lives!
And why not, if one can. With a combination of working smart to create wealth, and investing wisely to preserve wealth.
For the latter, if I were you, I would think of parking my savings in an instrument which doesn’t make me nervous, and yet partially enables me to grow and preserve my wealth. Yes, I am talking about an investing instrument which will create, preserve, and grow my wealth – “fixed income securities”
Market share of “Debt Securities” in India, which are also synonymous with “Fixed Income Securities”, have grown by 45% in the past 5 years, where the combined market share of government and corporate borrowing issuance (including G-Sec, T-Bills, SDLs, CPs and corporate bonds) rose from ₹42 lakh crores in FY17 to ₹61 lakh crores in FY21 (April 20 - March 21).
With an average yield of 5.92% on 10yr G-Secs and 6.7% on corporate bonds in FY21, fixed income securities do offer a buffer against market volatility, and a great way to preserve your wealth.
I, for sure, would want to go to bed peacefully at night knowing in 10 years from now my money would not only be preserving but growing too. Call me old fashioned, or risk-averse, or a well-informed smart investor, I will leave that up to you.
Let’s take a look at what fixed income securities are after all, and the merits of investing in them.
What is a Fixed Income Security?
Fixed income securities or debt securities are financial instruments which allow the borrower to raise funds to finance its activities. The requirement for borrowing varies from a government body (which may issue a bond to fund infrastructure projects) to a corporate (may issue a bond to raise funds for expansion).
An investor lends money to a borrower, who in return provides a regular and fixed income stream for the duration of the loan along with fully redeemable principal amount on maturity.
In India, fixed income securities are largely issued by Government bodies (central and state, PSUs, agencies) and Corporates.
Why should one invest in Fixed Income Securities?
Without any sugar coating, fixed income securities do offer a viable investing option, and undoubtedly warrants a fair share of the investment pie. Here are some of the key advantages of investing in fixed income securities:
● Capital Preservation: an investor has minimal risk of ‘losing’ their money in a debt market. Given fixed income securities are issued either by government bodies or corporates, these are backed by the assets of the debt issuer. Hence, the initial investment remains intact till maturity with a guarantee of being fully repaid on redemption.
● Periodic Income Stream: fixed income security provides a source of regular income stream to an investor in the form of periodic interest income or coupon payments, which are fixed. An exception to this fixed income stream is return on floating rate bonds, where coupon rate is reset every 6 months pegged to the prevailing interest rates in the market, and zero-coupon bonds which do not attract any coupon payments.
● Fixed Duration of Investment: fixed income securities are offered for a fixed period of time. Many of these securities do have an option of early redemption, subject to certain terms and conditions.
● Portfolio Diversification Opportunity: fixed income securities provide an excellent opportunity to diversify an investment portfolio. This can be true for an investor looking to balance their risk appetite with a combination of risk-ranging securities in their investment basket, or an amateur investor beginning to build their investment portfolio. Remember, never put all your eggs in one basket!
● Minimal Exposure to Default/Credit Risk: an investor has minimal exposure to default or credit risk, which arises when a borrower is unable to meet their debt obligation. Fixed income securities issued by the Government offer zero exposure to credit risk as these securities are backed by the Government, and come with the highest credit rating, and are referred to as risk-free investment. However, fixed income securities which are issued by corporates do have default or credit risk attached to them. Corporates generally offer a higher coupon rate to compensate for the level of risk, if any, associated with their bond offerings. An investor should diligently consider the credit rating assigned to corporates before making an investment decision. A credit score is given to a debt issuer by regulated credit rating agencies, based on their ability to repay their own debt obligations in full and in a timely manner. CRISIL Ratings, CERA, ICRA, India Ratings are few of the credit rating agencies in India.
● Low Market Volatility: fixed income securities are comparatively less volatile to the market conditions. However, there is an interest rate risk which may result in an investor losing out on earning higher interest rates. Conversely, if the market interest rates drop, an investor benefits from the higher interest rate locked in on the bonds they had invested in.
● Trading Platform: fixed income securities can be traded in the secondary market after they have been initially offered to investors in the primary market. Long term securities (G-Secs, corporate bonds) trade in the capital market, and short-term securities (T-Bills, certificates of deposits (CDs), and commercial papers (CP)) trade in the money market.
Warren Buffett had wisely said, “risks come from not knowing what you are doing". Hence, know your options, where to invest and how to make the best out of the big investment basket you got!