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What is Fixed Income?

Definition

Fixed income refers to a type of investment security that pays investors fixed interest or dividend payments until its maturity date. Upon maturity, investors are repaid the principal amount invested. Fixed income securities are typically used by investors seeking regular income and lower risk compared to stocks. These instruments include government and corporate bonds, treasury bills, municipal bonds and preferred stocks.

Characteristics

  • Predictable Returns: Fixed income investments offer predictable income streams, making them an attractive option for conservative investors, such as retirees.

  • Risk Mitigation: Generally considered lower risk than equities, fixed income securities can help diversify and stabilize an investment portfolio.

  • Interest Rate Sensitivity: The value of fixed income securities is inversely related to interest rates. As interest rates rise, the value of existing bonds tends to decrease and vice versa.

Types of Fixed Income Securities

  • Government Bonds: Issued by national governments, these are considered among the safest investments, backed by the issuing country’s credit.

  • Corporate Bonds: Issued by companies to fund operations, expansions or projects, with risk and return varying by the issuer’s creditworthiness.

  • Municipal Bonds: Issued by states, cities or other local government entities, often offering tax-free interest income to investors.

  • Preferred Stocks: A type of stock that provides dividends before any dividend payments are made to common stockholders, typically with fixed rates.

Investment Considerations

  • Credit Risk: The risk that the issuer will default on its obligation to pay interest and principal.

  • Interest Rate Risk: The risk that changes in interest rates will affect the value of the bond.

  • Inflation Risk: The risk that inflation will diminish the purchasing power of the fixed payments received.

Conclusion

Fixed income securities play a crucial role in investment strategies, offering stability, income generation and risk management. By incorporating fixed income into their portfolios, investors can achieve a balanced approach to meeting their financial goals, aligning with strategies for income, preservation of capital and diversification.

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