 Your investment strategy should be driven by multiple factors, each of which deserve careful thought. Personal goals, investment objectives, and the ability to assume risks are essential deliberations in constructing a sound investment strategy. Fixed income strategies may not sound appealing to most young people and one of the main reason is the lack of education and/or information on fixed income securities and investments. Fixed-income investments are securities that provide regular interest or dividend payments and, in many cases, a return of principal at maturity. Their primary objective is income with limited, if any, growth potential. Remember, the rate of return on a fixed-income investment can be fixed throughout its holding period (e.g., bonds) or can fluctuate with the general movement of interest rates (e.g., Series EE U.S. savings bonds and money market mutual funds). A good example of a variable interest rate is the money market account that you may have.
Fixed-income investments, in general, are "loanership" assets; investors loan their money to a government entity (e.g., state), corporation, or financial institution (e.g., bank, credit union) and receive interest on a regular basis (e.g., monthly, semi-annually). The rate of interest paid can either be fixed for the life of an investment (e.g., Treasury securities) or can fluctuate with the general movement of interest rates (e.g., series EE savings bonds). The principal (amount of original investment) is returned at maturity (the date on which principal must be repaid), although its value can fluctuate (if sold beforehand) according to changes in interest rates. For many fixed-income securities (e.g., bonds), as interest rates rise, asset prices decline and, as interest rates decline, asset prices rise.
Fixed-income investments provide a level of safety and comfort that is just not available in other investment securities such as stocks. However, Most fixed-income investments, including all marketable U.S. Treasury securities purchased since late 1998, require a minimum purchase of $1,000 or less but it has made is more affordable to small investors. Formerly, $10,000 was required to purchase Treasury bills and $5,000 for Treasury notes with less than a 5-year maturity. Treasury bills are issued with maturities of 3 and 6 months and Treasury notes with maturities of 2, 5 and 10 years. All Treasury securities are backed by the "full faith and credit" of the U.S. government and can be sold prior to maturity in secondary markets.
Periodic government Treasury auctions determine the interest rate earned by investors. Generally, the longer the maturity date, the higher the rate of interest a Treasury security (and all bonds) pay, because an investor’s money is "tied up" (subject to interest rate fluctuations and unavailable to invest elsewhere) for a longer period of time. If you watch any financial news or read any financial publication, you probably have heard of 5 or 10 years treasury yields.
One of the most important features of treasury securities is that interest earned is exempt from state and local income taxes. Another characteristic is that, like all bonds, Treasuries are subject to interest rate risk (when interest rates rise, bond prices decrease and vice versa). Treasury securities can be purchased from your local bank or your brokerage firm(local or online) for a fee or you can directly purchase them from the Federal Reserve System’s "Treasury Direct" program at no charge. For additional information, go to the web site - Treasury Direct.
Top Tips for Fixed Income Investors:
Understanding the Risks. Whether you're a experienced investor or a new bee, You must have a good understanding of the risks involved in investing. All investments have risks, including fixed-income securities. To earn a higher return, for example, an investor may need to consider bonds from a less creditworthy issuer. If you remember the dotcom bust, you probably know that some of the corporate bonds with good return were worthless and were sold for pennies for a dollar. You don't want to get caught with a investment that can lead to a substantial loss of your principal.
Beware of guarantees. Even with a portfolio of Treasury securities, an investor can lose money via interest rate risk. Beware of promises that "you can never lose principal." You can and there are plenty of example to prove that. Consult your financial advisor if you are not sure about the bonds you are considering for investment. If you don't have a financial or investment advisor, you can always go online and research the offer and read the feedback and comments that other investors may have posted.
Stagger your portfolio. Stagger the purchase of bonds, CDs, and Treasury securities to spread out the tax owed and expose only a portion of your portfolio to interest rate changes at any one time. You don't want to be in just one line of fixed income investment. Some of the investors have even considered "Gold" as an option in a uncertain market and it has worked out great.
Use bonds to hedge stock investments. Have your cake and eat it too. Buy a zero-coupon bond to guarantee the return of principal and use the balance of principal to invest in ownership assets (e.g., stock). Stocks market investment has a higher risk so you want to hedge your investment with securities that have a low risk and decent return.
Match investments with financial goals. Invest with a goal in mind. For example, use a 2-year Treasury note for an upcoming car purchase or an 8-year zero-coupon bond for a child’s education. Goals should always be in line with your timeframe. For example, there is no reason to invest in 5 or 10 year treasury bonds if you need that cash next year for a home purchase.
There are many reasons to consider fixed-income investments. One is that they add diversification to an investor’s portfolio. Fixed-income investment can provide a good balancing tool for your portfolio. If you’re nearing retirement and need a income component from your retirement funds or savings, Fixed-income investment is the way to go. This is a great option for current or near retirees who seek regular income to supplement a pension and/or Social Security. Investing in just one asset class (e.g., stock, bonds, or cash), however, is less desirable than selecting a combination of assets because doing so increases investment risk. It’s like the old saying "don’t put all of your eggs in one basket." By combining investments that are affected differently by economic events, investment risk is reduced. While both stocks and bonds often are similarly affected by interest rates in the short run today, over the long term they have had a relatively low relationship to each other.
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