Everything You Need To Know About Fixed-Income Investing

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If you're considering an investment opportunity, here's what you need to know to see if fixed-income investing might be right for you. Fixed-income investing involves putting funds in low-risk assets that have a fixed stream of income. This investing strategy aims to try and mitigate market risk while still generating a return.

How Fixed-Income Investing Works

Fixed-income investing means you loan money to a company, municipality, or the government. In return for the money contributed, they issue a bond, kind of like an IOU. The bonds have an interest rate attached to them, and you earn income by interest paid as a dividend over a fixed period of time or by selling the bond for more than you paid. If you hold the bond to maturity, the borrower is supposed to pay the amount borrowed.

The Different Types of Fixed-Income Investments

There are several fixed-income investment opportunities depending on your strategy. Some of these may include:

• Bonds
  As an investor, when you purchase a bond, you are lending money to the issuer of that bond, which in some cases could be the government or a corporation. The issuers of bonds are known as the borrowers. The borrower then pays the investor a fixed interest rate (the coupon rate) for a specified period of time.
• Money-Market Funds
  This is a type of mutual fund offered by banks and credit unions that invests in low-risk, short-term debt securities, for example, Treasury bills. If the bank is FDIC-insured, your money market account is insured up to $250,000. Credit unions like BECU have their own insurance fund, the National Credit Union Administration (NCUA), which is also secured up to $250,000.
• Certificates of Deposit (CDs)
  A CD is a low-risk savings account offered by credit unions and banks that pays interest for a specified period of time. Typically, you agree to keep your money in the CD and not take a withdrawal until the CD matures. If you withdraw your money early, you may have to pay a penalty to the financial institution. If you purchase a CD at an FDIC-insured bank, your money is also insured up to $250,000. If you purchase through a credit union, your CD is insured by the NCUA, which safeguards up to $250,000.
• Bond Exchange-Traded Funds (ETFs)
  This type of security involves pooling your money with other investors, which is then invested into different bonds. Units of a bond ETF can be traded in real-time on exchanges during market hours. Bond ETFs pay interest to investors through a dividend. These dividends get treated as capital gains or income for tax purposes.
• Bond Mutual Funds
  Similar to a bond ETF, a bond mutual fund is a pool of capital from investors, and the fund is professionally managed, and the capital allocated to different securities.

Risks of Fixed-Income Investing

Like any investment, there are risks associated that you should take into consideration. Some of these may include:

• Credit Risk
  This generally becomes a factor depending on the type of security you invest in, for example, bond funds that invest in lower-quality, high-yield, or non-investment grade bonds. As an investor, do your own research and understand a fund's credit quality guidelines.
• Liquidity Risk
  When a security is liquid, you can buy or sell investments quickly and for a price close to the asset's actual value. Liquidity risk is when you may not be able to buy or sell an investment as soon as you would like. Regarding fixed income, liquidity risk is higher for bonds with a lower credit rating, recently downgraded bonds, or bonds sold by an infrequent issuer.
• Interest Rate Risk
  This risk will primarily come into play if you buy bonds on the secondary market, where prices can be higher or lower than the face value depending on market conditions and the economic landscape. A change in interest rate can dramatically impact bond prices.
• Inflation Risk
  Inflation risk is the possibility that inflation rises and lowers the purchasing power of your income. If your goal is to live off your bond income, this type of risk could be concerning.
• Call Risk
  Callable bonds allow the issuer to call or repay the bond earlier than the maturity date. Bond issuers can save money by repaying callable bonds and issuing new bonds at lower interest rates when interest rates drop. If you are a bondholder and this occurs, your interest payments end, and you receive your principal.
• Prepayment Risk
  Prepayment risk involves the risk that the security issuer will repay the principal before the bond reaches maturity. Doing so alters the payment schedule of the bond. A typical example of this occurs with mortgage-backed bonds when a drop in the market makes refinancing very attractive for homeowners.

Talk to a Financial Advisor

Financial advisors at BECU Investment Services can help you identify your risk tolerance and determine if fixed-income investing could work for you and your financial strategy and goals. Our team will take the time to get to know you, understand your goals and plan and implement a financial and retirement strategy that's appropriate for you. Set up a complimentary consultation or call 206-439-5720 today.