Yesterday I celebrated the birthday of my four-year-old. His grandpa gifted him 1,000
rupees. Being four year old, he had no idea what to do with this money. But he is a smart kid. He
handed over this amount to me and told me that he will take this money on his next birthday but
on one condition that, I will have to give him his favourite chocolate every month. Well played
Kiddo must say.
Having done my post-graduation in finance, I realized my kid just sold me a fixed income
security.
What is fixed income security?
A fixed income security is a type of investment that gives a return in the form of fixed
periodic payments and then eventually hands over your principal amount at the maturity. In this
type of investment, the investor has the idea about the amount of periodic payments he will be
receiving. It is fixed before the investor hands over his money to the issuer. Can it get any safer?
Types of fixed income security
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Pros and Cons of investing in fixed income
The best reason for investing in fixed income security is your principal amount is safe
along with a steady and predictable source of income. Worried about retirement? not anymore.
Along with this, you get to diversify your portfolio. Worried about market volatility? not
anymore. There isn’t any need for constant monitoring as well.
All these reliefs come with a cost. Yes, the rate of interest for fixed income securities is
comparatively lesser than other investment avenues. Interest rate risk i.e. price of fixed income
security goes down when interest rate rises is also of concern. As a matter of fact, the interest rate for
short term investment is lesser than that of long term investments. So, it is not a good option
if you are looking for quick money. The other risk arises when the issuing company isn’t
performing well and is unable to pay back your principal amount. This is called Credit risk. Analysis
of company is very important to ensure such risk does not arise.
Current scenario and outlook
RBI has increased the repo rate to 6.25%, to keep the inflation under control. Due to rise
in interest rate, the price of the fixed income security which was issued at a lesser rate previously
decreases. This, in turn, pushes down the returns of the investor. But it’s a good sign for investors
planning to invest their wealth now, as the rise in interest rate can be seen (which is 6.5 percent
to 7.5 percent recently).
Conclusion
Fixed income investments are an important part of portfolios and will always be, even if
interest rates go up. Various asset classes give unpredictable returns, unlike fixed income
securities. And as they say, one must never put all his eggs in the same basket. It is important to
have your amount of corpus in fixed income depending on your risk appetite, time horizon of
investment & return expectation. Future of fixed income is anything but fixed.
Happy Investing!
