Fixed Income Investments: Making Money With A Low Risk Investment Strategy

June 11th, 2009

What’s a fixed income investment?

Fixed Income Investment Definition: A fixed income investment is money that’s invested in bonds, certificates of deposit, preferred stock or real estate, which regularly generates a fixed income: the dividend, interest rate, or rental income is specified as a fixed, non-changing return on your money, either as a dollar amount or percentage rate. Such investments are preferable during periods of low inflation because they offer protection against market risk, but their worth is eroded during periods of high inflation because the fixed return you get loses its value quicker. They’re also good starting points for stock market beginners who want to get their feet wet in the world of investing.

Fixed Income Investment Types

U.S. Treasuries

U.S. Treasuries are the option of choice when the main concern is the safety of your investment dollars. Treasuries are debt securities of the U.S. government issued through the U.S. Department of Treasury. Timely payment of principal and interest is guaranteed by the U.S. government, making them the highest quality (meaning safest) investments available. They’re even the benchmark against which other debt securities are measured, since they’re backed by the full faith and credit of the U.S. government.

Treasuries are a short term money market instrument and issued by the federal government in terms of 30, 60, 91, 182 and 364 days, and are sold by auction. Banks and investment houses buy at wholesale in multiples of $5 million denominations. They then sell these Treasuries to brokers and investment dealers who break down their purchases into $1,000 lots. Treasuries are sold at a discount to their face values and also sold on the secondary market. Their value fluctuates depending on competitive interest rates at the times of resell.

You can choose from Treasury bills, notes, bonds, Treasury inflation-protected securities and STRIPS

Agency Debt Securities

Many governmental agencies issue debt and mortgage-backed securities, often -at slightly higher coupons and yields than Treasuries. While they are not direct government obligations, many offer some type of guarantee by the issuing agency.

Among the most active agency issuers are the Federal National Mortgage Association (“Fannie Maes”), the Federal Home Loan Mortgage Corporation (“Freddie Macs”), the Federal Home Loan Bank, the Federal Farm Credit Bank and the Student Loan Marketing Association (“Sallie Maes”).

Municipal Bonds

One conservative yet still liquid option is to invest in Municipal Bonds (Munis) which offer a high rate of interest and principal payments received from the issuer. Municipal bonds are debt securities issued by state and local governments and their agencies. The interest they pay is free from federal taxation and sometimes state and local taxes.

Munis are also liquid which means your money is not trapped and you can cash out of them at any time. The minimum investment for most Munis is $5,000, so it’s affordable to most investors that want to enjoy the conservative approach while receiving predictable and steady payments from their bond investment. Besides looking at tax exempt status another important issue to look for from companies that offer municipal bonds is to make sure they have a BBB rating or better. The higher the rating the more reassuring it will be that the company will be able to pay you the principal/interest that they promised.

Corporate Bonds

For investors searching for a higher yield than normally available in the government market, corporate bonds offer a more aggressive fixed-income choice. Corporate bonds are like lending money or providing a loan to a business. You act as a lender to the company or corporation, which in return pays you interest on the money that you have lent them. Corporate bonds usually come in multiples, like $1, 000 or $5,000. The Interest on the money, usually pre-determined, is paid to you semiannually. Income from corporate bonds is taxable and must be declared.

The market for corporate bonds is huge with daily trading of about $23 billion. Individuals invest in corporate bonds for the benefits corporate bonds offer as an investment, especially in regards to safety: corporate bonds work on a rating system that goes on the company’s credit history and its prior record for repaying debts. The higher the rating of the company, the safer the investment will be.

Bond Funds

Bond funds are professionally managed mutual funds that only hold bonds in their portfolio. They offer investors diversification across several companies that issue bonds. These bonds held by the funds pay interest, and this interest is passed on to investors in the form of dividends.

When you buy shares of a bond fund, you are simply trying to get the highest income you can, without taking on heavy risk. But bond funds have interest rate risk: if you invest now and interest rates go up in the future, the value of your investment will fall. Government bond funds invest in the likes of U.S. Treasury bonds, which are the safest on earth. Short-term bond funds are relatively safe because they hold bonds that mature in a few years. Bond index funds offer low expense ratios and decent returns for minimal risk.

I will mention (but only in passing) Certificates of Deposit (CD’s) and Money Market Funds. For the simple reason that when you invest, you expect a good return on your money. The returns on the aforementioned vehicles barely keep up with inflation and taxation. Putting your money in them is not investing, it’s saving.

Low Risk Investment Strategy

If you’re like the majority of people, you work hard for your money. When you invest it, you want it to produce returns at a relatively low level of risk. Remember there’s a trade-off between risk and reward, so while a low risk investment strategy won’t make you double your money in a year, you won’t be losing half of your money in a year either. That being said, even a very low risk investment strategy, isn’t “no risk”. There’s always a certain degree of risk whatever you’re investing in. What most people fail to realize is that even a low risk investment strategy can bring in decent returns over the long term, which is the only term to be investing. This strategy is also low maintenance. You don’t need to become a financial expert to make money in your investments…you just need to be careful.