Fixed Income: A Guide for Investors

Fixed Income: A Guide for Investors

Joel Colman

Joel Colman  -  28th May 2024

Fixed income is a generic term to describe investments that pay fixed interest payments. A fixed-income investment is a loan that you – the investor – make, typically to a company or government, where both interest rate and term are fixed in advance. The loan enables the company or government to raise capital. And in return, you’re paid a series of interest payments until maturity, where the principal investment amount is repaid.

Unlike unpredictable stock market investments, fixed-income investments provide stability and bring balance to your investment portfolio. As a result, they’re particularly popular during periods of financial market turbulence – such as those we’ve experienced over the past few years – and recessions.

In this guide, we take a deeper dive into the world of fixed income investing – exploring everything from common terms and definitions to traditional and alternative fixed-income product types, as well as advantages and drawbacks of fixed-income investments.

What is fixed income?

Fixed-income products are traditional or alternative investments that pay a fixed rate of interest over a fixed term. Typically, interest payments are made at regular intervals – monthly, quarterly, biannually or annually, for example – with the principal investment amount returned on maturity.

You’ve probably heard of the most common traditional fixed-income investments: government bonds and corporate bonds. Both are debt instruments that operate under the same principle: governments and companies need money to fund operations, projects or initiatives; they borrow it from investors and agree to repay it – in addition to regular interest payments – at the end of a set term.

Alternative fixed-income investments operate in the same way as their traditional counterparts. However, they give investors access to a broader range of asset classes – property, litigation funding and commodities, to name a few.

A fixed-income glossary

So much for the basics. When you start reading about fixed income, you’ll encounter a multitude of terms, sometimes used interchangeably. At Hays Mews Capital, we do our best to steer clear of jargon. But it’s still useful to understand the terminology around fixed income. So here’s a quick-reference, jargon-busting glossary:

  • Bond – A loan that an investor makes to an issuer or provider, which could be a government or a company
  • Coupon – the annual interest rate that the provider promises to pay the investor during the term
  • Coupon frequency – also referred to as the payment schedule, this is the frequency of the interest payment (monthly, quarterly or biannually, for example)
  • Debenture loan – an agreement between lender (investor) and issuer (provider) that gives the lender security over the issuer’s assets in the event of a default
  • Default risk – the possibility that the issuer will default and be unable to repay the coupon or principal amount
  • Issuer – the provider (government or company, for example) that has issued the bond
  • Maturity – the pre-agreed date where the principal amount of a fixed-income investment is repaid (along with the final coupon payment)
  • Performance guarantee – an insurance policy that guarantees payment to the lender
  • Principal or capital repayment – the repayment of the initial value of the fixed-income investment on maturity
  • Regulated security trustee – an independent entity, regulated by the Financial Conduct Authority, who ensures that interests of investors are represented
  • Term – the timeframe for the investment
  • Yield – the return an investor receives, generally expressed as an annual percentage

Types of fixed-income products

When we talk about fixed income in traditional markets, we’re generally referring to corporate or government bonds. Alternative fixed income encompasses a wider range of investments across a variety of asset classes. In this section, we explore some common fixed-income product types (including those we specialise in at Hays Mews Capital):

Government bonds

Known as treasury bills, treasury notes, treasury bonds and treasury inflation-protected securities in the US and gilts in the UK, government bonds are securities issued by governments to finance their operations. Delivering stable and predictable returns – they have a reputation as one of the safest bond types – with a minimal risk of default, government bonds appeal to risk-averse investors.

Corporate bonds

Available in a variety of types, corporate bonds are also debt securities – but those issued by companies looking to raise capital for projects or operations. Offering higher interest rates than their government counterparts, corporate bonds are rated according to the financial viability of the issuer. Investment-grade bonds are issued by companies with a strong financial record and low risk of default, while non-investment-grade bonds (aka junk bonds) have lower ratings and therefore higher interest rates.

Municipal bonds

Issued by states, cities, and other municipal entities to fund public projects, municipal bonds are split into two main types: general obligation bonds and revenue bonds. Often tax-exempt, they’re considered a low-risk investment and appeal to investors in higher tax brackets looking for strategies to optimise their tax liabilities.

Real estate

Fixed-income property investments are loans made to property development companies to fund their projects. Spanning a range of investment types – commercial real estate such as office buildings or shopping centres, for example, or luxury developments – investments can be made directly or through real estate investment trusts (REITs). Attracting investors looking for tangible assets and diversification from traditional stocks and bonds, fixed-income property investments are growing in popularity.

Litigation funding

Litigation funding is the financing of legal cases in return for a share of the proceeds. It’s a fast-growing asset class, predicted to reach $25.8 billion by 2030. Fixed-income bonds from expert companies incorporate robust security structures, giving investors the unique opportunity to invest in a meticulously sourced range of cases.

Algorithmic and arbitrage trading

Fixed-income bonds in diversified, non-correlated trading strategies – including algorithmic, arbitrage and volatility trading – combined with risk mitigation techniques provide consistent returns under any market conditions. They’re an increasingly popular choice, particularly amongst high-net-worth investors.

Commodities

Fixed-income investments can be linked to the value of commodities like gold or oil – they’re issued by companies trading in commodity futures or those operating within the sector itself. Providing a hedge against inflation and currency devaluation, this is a good option for diversifying your portfolio and mitigating risk.

Fixed-income ETFs and mutual funds

Both mutual funds and ETFs pool capital to invest in fixed income. However, the former is actively managed with capital allocated to fixed-income securities, while the latter tracks an index of bonds to match returns. While mutual funds often have a minimum investment, ETFs are accessible to those with less capital. Both provide portfolio diversification.

Foreign Exchange (FX)

Forex fixed-income Investment strategies involve the trading of currency pairs – betting on one currency rising or falling in relation to another, for example. The goal? To benefit from fluctuations in exchange rates. As part of a diversified investment strategy, FX trading can deliver regular income through interest differentials – and attracts investors with an interest in global financial markets.

Pros and cons of fixed-income investments

Fixed-income investments – especially short-term investments that combine robust security structures with high yields – provide some fantastic benefits. But, as with any investment, it’s important to be aware of the possible drawbacks too. We’ve summarised the key issues.

Advantages of fixed-income investments

Predictable and stable – Coupon payments give you a predictable source of income and offer regular access to your capital – making it easy to plan for spending. Contrasting with volatile stock market investments, fixed income brings balance to your investment portfolio. Bear in mind that traditional bond values often behave inversely to stock values, while alternative fixed-income options are non-market correlated.

Diversity and hedging – Spanning a broad range of asset classes – from property to litigation funding and commodities to trading – fixed-income strategies help you diversify your portfolio and hedge against risk. By investing in fixed-income securities with different characteristics, you’ll create a portfolio that’s less sensitive to financial market ups and downs.

Security – Fixed-income investments are backed by the financial viability of the bond issuer – whether company, government or municipality.

Companies with a strong track record are less likely to default on a payment – so we conduct sector screening and accounts analysis as part of our due diligence process. We also ensure that products we source incorporate robust security structures to mitigate risk: regulated security trustees, performance guarantees and debenture loans, for example. (See glossary for definition of terms.)

Strong yields – Interest rates vary from product to product. But while government bonds tend to be characterised by low interest rates, others – such as the fixed-income bonds that we source – pay returns of up to 18% per annum.

Choice of investment term – Fixed-income products offer a wide range of choice when it comes to term – the amount of time during which you’ll receive interest payments.

With traditional fixed income, longer terms tend to correlate to higher interest rates – and less volatility on the secondary market. Alternative fixed income works on a product-by-product basis – the investments we source are characterised by a short term, generally 2 years.

Possible drawbacks of fixed-income investments

Risk of default – Typically, the issuer of your fixed-income investments will offer protection in the event of a default – but it’s crucial to do your research before investing.

For example, we have a meticulous due diligence process and only source products from providers with a 100% track record on repayments.

Fluctuations in interest rates – When interest rates rise, newly issued traditional fixed-income investments become more attractive, lowering the market value of older bonds. On the flip side, when interest rates fall, the older bonds will become more attractive.

(Alternative fixed-income products are non-market correlated, meaning they perform regardless of interest rate fluctuations.)

Instant access to cash – When you invest in fixed income, you can’t access your capital investment in the way you would if the money was in the bank – depending on the product you select, the principal investment amount may be inaccessible until the maturity date. However, coupon payments deliver smaller sums at regular intervals.

Potential for lower returns than the stock market – While they’re not anywhere near as risky as stocks, traditional government and corporate bonds don’t deliver the same rate of returns. This means that investors often start out by focusing more on the stock market, gradually shifting to bonds as they approach retirement.

However, alternative fixed income offers higher returns than traditional bonds – the investments we source deliver returns as high as 18% per annum, which is also higher than the annual average of around 10% delivered by the stock market.

Inflation-related risks – Fixed-income securities provide a fixed payment, regardless of market interest rates. If inflation rises above the interest rate of your product, it can swallow the gains you’ve made in real terms.

This can be an issue with a traditional government or corporate bond. To circumvent this issue, you can seek out alternative fixed-income bonds that offer higher rates of return.

What kind of investors choose fixed income?

Traditionally, fixed income has been popular amongst investors approaching retirement age – and those that have already retired – as it combines low capital risk with a regular income. However, the interest rate hikes that have defined the turbulent financial landscape in recent years have seen a corresponding increasing in corporate bond yields, boosting uptake amongst investors at every stage of the investing lifecycle.

That said, recent BlackRock research has revealed that – due to persistent inflation and uncertainty over policy – traditional fixed income might not offer the level of diversity it once did. Meanwhile, the alternative fixed-income space has witnessed rapid growth. Once restricted to institutional investors, individual investors – especially those classified as high net worth – are increasingly looking to alternative fixed-income bonds to unlock new revenue streams, embracing their blend of strong interest rates and robust security structures.

Essentially, fixed income helps to mitigate risk, providing stability in contrast to your volatile stock market investments – plus, it gives you a regular income stream. By allocating a proportion of your portfolio to fixed income, not only will you balance and diversify it. With the right fixed-income strategy and choice of investments, fixed income helps grow your portfolio, and gives your longer-term investments elsewhere the chance to outlast market volatility.

Starting your fixed-income investment journey

Is fixed income ticking your boxes? That’s great! But before you dive in, it’s crucial to ensure to research options thoroughly and conduct sufficient due diligence.

And that’s where we can help. We’re fixed-income experts who source high-performing short-term opportunities in the alternative investments space. Spanning a range of asset classes – from luxury and commercial property to litigation funding – we look for top-tier opportunities that diversify and stabilise your portfolio. And as they’re all from alternative asset classes, they deliver – unaffected by turbulence in financial markets or inflation.

What’s more, our due diligence process is meticulous. We only partner with companies with a 100% track record on client repayments. Sound financial health is a prerequisite – we look for providers with significant assets in an industry that’s stable with the potential for growth. Boards must be made up of experts with significant experience in their fields – and we seek out companies who share our values and commitment to service excellence.

Turning to the fixed-income opportunities themselves, we’re only interested in products that encompass robust security structures – debenture loans and performance guarantees, for example. We also look for strong returns (currently up to 18% per annum) and short timeframes, typically between 1 and 2 years.

Matching you to a product that aligns with your interests and financial goals – with an interest payment schedule that meets your requirements – we help you stabilise and diversify your portfolio.

Frequently asked questions (FAQs) about fixed income

What is considered fixed income?

Fixed-income investments are where the interest rate is fixed in advance. You’re paid interest payments according to the schedule throughout the course of your investment. And at the end of the term the principal investment is repaid.

Is fixed income good or bad?

Fixed income provides a range of benefits: stability, regular interest payments and diversity, for example. This makes it a popular choice for risk-averse investors. Traditional and alternative fixed-income products can be part of a well-rounded and diversified investment portfolio.

Can you lose money on fixed-income investments?

With traditional fixed-income investments, the interest rate of your bond might fall behind the market rate, so your investment would lose value in the secondary market. There is also the risk of a default, but typically issuers offer protection.

Does fixed income do well in recession?

During recessions and economic downturns, traditional fixed income diversifies your portfolio and reduces its overall risk.

Is fixed income high risk?

Traditional fixed-income investments – and particularly government bonds – are considered low risk. Corporate bonds with higher yields (junk bonds) are more volatile. Alternative fixed-income products have robust security structures to mitigate risk for investors.

Why is fixed income better than stocks?

Unlike high-risk equity investments – which fluctuate wildly, particularly during times of economic turbulence – fixed income provides stability, diversity, balance and a regular income.

Is it time to invest in fixed income?

Providing income and stability – and offering strong returns – now is a great time to invest in a fixed-income product that matches your goals and risk profile.

Can you make money in fixed income?

With the right fixed-income investment, you can grow your wealth and protect your capital – in addition to receiving a regular income. As payments are fixed in advance, you know what you’re going to receive and when, making it easier to plan effectively.

Joel Colman
Joel Colman

Joel Colman

Co-Founder Director

Want to find out more about how fixed-income investments can bring diversity and stability to your investment portfolio. Use the link below to access my dairy and book a call.

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