Why safety and predictable returns makes fixed income investments attractive

Saturday, March 5th, 2022 02:00 | By

We all have goals that we cannot gamble with because they are very important to us and if we cannot attain them, it would be a big blow.

Saving and investing for such goals must therefore be very deliberate. The investments must be carefully selected to ensure to gain maximum returns without taking on unnecessary risks.

Here are some of the key thoughts that one needs to consider when seeking maximum returns from fixed-income investments.

Security: One must be sure that any investment being undertaken is secure and that the probability of loss is very low. The most secure asset fixed-income investments are government securities since it is very difficult for governments to default.

Return: One must select investments with the highest return at the same level of risk. For example, if you are investing in government bonds, for an equal tenor one needs to select the bond that has the highest periodic income (the coupon) as this reduces the duration risk.

Time: Matching your investments to your goals ensures cash is available when you really need it. There are investments with different tenors and so this is not difficult to achieve.

Liquidity: No matter how organised your life is, you might require to liquidate investments at some point and it is therefore important to ensure that as you invest, earmark the assets that you can convert to cash easily without losing value. Some of the assets like bank deposits work and the money market funds are easy to liquidate.

Market: While investing in the fixed income market, however, it is also important to consider the availability of a market for that particular asset. The more developed the markets are for the securities, the more transparent the investment ends up being, and this also means that one can liquidate the investment with ease.

Issuer: Understanding the person offering a fixed income deal (issuer) is important because one can do their own analysis on the quality of the entity. When the firms or underlying assets have gone through the rating processes, this tends to deepen comfort among investors on the soundness of their investments.

Inflation: Among the key considerations is the rate at which funds are losing value due to inflation. An investor must always target to invest in funds that are generating returns above the overall inflation.

Taxation: Understanding the tax regime of an investment vehicle is important since one of the largest expenses for most people is tax. To this end, putting money in tax-efficient investments is key while building a portfolio.

There are several ways to main assets that qualify under the fixed income assets, however, it is important to note that a good strategy offers steady interest income through a series of bonds. Here are examples of the assets.

    i.   Treasury bills and bonds: These are instruments that the government uses to borrow money from the market. They are issued in the local currency. Bills are short-term with tenors of 91, 182, and 364 days and are issued weekly. Bonds are long-term with tenors of up to 30 years and are largely issued monthly. The minimum investment amounts for Treasury bills is Sh100,000 and Sh50,000 for Treasury bonds. There is a ready market for bonds but none exists for Treasury bills.

   ii.   Deposits: These are deposits placed with banks and other financial institutions like microfinance institutions. The clients and the banks agree on all the rate, tenor, and even penalties if recalled earlier. The key is to ensure one places their funds in a stable bank.

iii.   Corporate bonds and commercial papers: These are loans given directly to corporates. Corporate bonds are long-term with an average duration of between three to five years while commercial papers are short-term instruments with tenors of between three months and one year. One needs to ensure that they have done their background check on the issuer and that they are comfortable with the financial health and governance of the institution. The minimum investment amount in most cases ranges around Sh1 million.

iv.  Money market funds: Though the returns are not fixed in advance, the money market funds are more of fixed income since one knows on average what to expect in terms of returns. They are very liquid and depending on the provider the minimum investments amount can be as low as Sh1,000.

Fixed-income assets provide stability to investment portfolios, one should ensure they put a certain portion of their assets here to cushion themselves in case of volatility in other asset classes. Matching the investment duration of the asset and the obligations is key since, despite the assets’ returns being known in advance, pressure to sell could lead to capital loss. Knowing the right person to speak to when making this crucial decision is also very important.

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