Fixed-income securities are those that pay fixed interest or dividend payments to investors until their maturity date. Investors are reimbursed the principal amount invested at maturity. The most prevalent forms of fixed-income instruments are government and corporate Bonds.

Unlike stocks, which may not pay out any cash flows to investors, or variable-income securities, whose payments might fluctuate depending on some underlying measure, such as short-term interest rates, fixed-income security payments are known in advance and stay constant throughout.

In addition to acquiring fixed-income securities directly, investors can choose from a variety of fixed-income exchange-traded funds (ETFs) and mutual funds.

KEY LESSONS

• Fixed income is a type of asset or security that pays out a predetermined amount of cash flows to investors, generally in the form of fixed interest or dividends.
• The most prevalent forms of fixed-income instruments are government and corporate bonds.
• They are referred to as fixed-income because they provide a fixed interest rate to investors.
• When many fixed-income securities mature, investors are refunded the initial amount they invested as well as the interest they earned.
• Fixed-income investors are frequently reimbursed before common stockholders in the event of a company's bankruptcy.

The Basics of Fixed Income

Debt securities are issued by companies and governments to raise funds for day-to-day operations and significant projects. Fixed-income securities pay a fixed interest rate return to investors in exchange for lending their money. At the maturity date, investors are refunded their initial investment amount, known as the principle.

A firm, for example, may issue a 5% bond with a $1,000 face or par value that matures in five years. The investor purchases the bond for $1,000, which will not be repaid until the conclusion of the five years. The corporation makes interest payments (called coupon payments) at a rate of 5% each year over five years. As a consequence, the investor receives $50 every year for the next five years.

1. The investor is reimbursed the $1,000 deposited at the start of the five years on the maturity date. Fixed-income investments that provide coupon payments monthly, quarterly, or semiannually may also be available to investors.
2. Conservative investors wanting a diverse portfolio might consider fixed-income securities. The proportion of the portfolio allocated to fixed income is determined by the investor's investment style. 
3. Treasury bonds and bills, municipal bonds, corporate bonds, and certificates of deposit (CDs) are all examples of fixed-income securities. Bonds trade on the bond market and secondary market over-the-counter (OTC).

Fixed Income Product Types

A government or corporate bond, as previously noted, is the most typical type of fixed-income asset. The most prevalent government securities are those issued by the United States government and are known as Treasury securities. Non-US governments and companies also sell fixed-income securities.

The following are the most frequent fixed-income products:

• Treasury bills (T-bills) are one-year fixed-income instruments that do not provide coupon returns and maturity within one year. Investors purchase the bill for a lower price than its face value, and they profit from the difference when it matures.
• Treasury notes (T-notes) have maturities ranging from two to ten years, pay a set interest rate, and are offered in $100 increments. Investors have reimbursed the principal but receive semiannual interest payments until maturity.
• Treasury bonds (T-bonds) are similar to T-notes in that they mature after 20 or 30 years. Treasury bonds can be acquired in $100 increments.
• TIPS (Treasury Inflation-Protected Securities) shield investors from inflation. TIPS bond principal changes in response to inflation and deflation.

A municipal bond is similar to a Treasury bond in that it is issued by the government, but it is issued and backed by a state, municipality, or county rather than the federal government, and it is intended to raise funds to fund local expenditures. Investors can also benefit from tax-free municipal bonds.

Corporate bonds are classified into several forms, and the price and interest rate issued are primarily determined by the company's financial soundness and creditworthiness. Bonds with higher credit ratings have lower coupon rates.

Junk bonds, often known as high-yield bonds, are corporate securities that pay a larger payment due to a higher risk of default. When a firm fails to repay the principal and interest on a bond or debt security, it is said to be in default.

A certificate of deposit (CD) is a fixed-income investment product issued by financial institutions with maturities of fewer than five years. The interest rate is higher than that of a conventional savings account, and CDs are insured by the FDIC or the National Credit Union Administration (NCUA).

1. Living expenditures in the United States are increasing, from food to transportation. In fact, at 8.5%, inflation has reached a four-decade high.
2. This is not good news for the country's 56 million older citizens aged 65 and over, many of whom are already on a limited income.
3.  According to a Congressional Research Service research from 2021, 8.9% of seniors had incomes below the poverty line in 2019.

What happens when fixed incomes and inflation collide?

It can be difficult for many elderly people who are already suffering to afford basic needs such as food, gasoline, utilities, and housing.

What does "living on a fixed income" mean exactly?

Living on a fixed income often refers to older persons who are no longer employed and get a regular salary.

They rely on a fixed income from sources such as Social Security, pensions, and/or retirement savings instead. They have very little control over the quantity of money they receive each month. Approximately 40% of elderly Americans rely completely on Social Security benefits, which average $1,657 per month.

Living on a fixed income becomes more difficult during periods of economic uncertainty, such as rising inflation. As expenditures grow, so does their capacity to pay for them. An unforeseen medical emergency or housing maintenance can tip the scales and lead to a financial disaster that is difficult to recover from for older persons on a fixed income.

What can retired people do to offset growing prices?

There are actions you may take to stretch your budget if you or an older senior you care for is loaded with bills and suffering economic uncertainty.

Get out of debt:

Older Americans have more overdue financial responsibilities than ever before. In 2016, the median total debt for debt-ridden older-adult families was $31,300, more than 2.5 times what it was in 2001.6 Keeping up with snowballing credit card payments might be difficult for a senior on a fixed income. That is why credit counseling may be a viable option to consider. Working one-on-one with a skilled counselor can assist you in gaining control of your debt and developing a sustainable repayment plan. Securing a reduced monthly payment, and eventually eliminating your credit card debt entirely, might free up cash for other obligations. 

Make a budget calendar:

Keeping track of your finances is vital at any age and income level. However, when you have a fixed or restricted income, it is critical to understand where your money is going. A budget calendar is a graphical tool that shows you your monthly income when it will arrive, and what your expenses are. This gives you a clearer view of your financial behavior, making you less likely to spend money you don't have. A budget calendar also provides you more control over your spending, which may help you feel less stressed about money. Making your own budget calendar (a simple wall calendar) is straightforward and something you can accomplish on your own. will be sufficient). Here's how to make a budget calendar.

Check to see whether you are eligible for food assistance:

In 2019, more than 5 million older Americans lacked consistent access to nutritional meals.7 As grocery store prices climb, the problem of food insecurity among seniors will worsen. SNAP, or Supplemental Nutrition Assistance Program, provides a financial safety net for elderly persons who might otherwise go hungry. This need-based program assists many seniors who live on a fixed income. Adults who meet the eligibility requirements get monthly financial benefits deposited into an Electronic Benefits Transfer (EBT) card. This card may be used to purchase qualified food goods at Walmart, other grocery stores, and even farmers' markets, just like a credit or debit card.

Consider working part-time (or full-time):

An increasing number of older persons are either returning to the labor force or looking for a job for the first time. For elderly folks, there are various work options. Online job boards, newspaper adverts, job fairs, and networking are examples of these. NCOA has released Job Skills CheckUp, a new employment tool designed to assist older persons in learning how to succeed as mature workers.  Simply tell us about your career aspirations and present employment position, and the Job Skills CheckUp will design a customized strategy to help you identify job vacancies, build a professional network, prepare for job interviews, and more.

What is an illustration of a fixed-income investment?

These debt products are strategies to diversify your portfolio. Fixed-income investments offer a safe, low-risk approach for many investors, particularly seniors, to obtain a consistent stream of income. Because the payments of fixed-income securities are known in advance, these forms of financial instruments will often give a guaranteed return on your investment as long as they are held to maturity.

Here are some examples of common fixed-income securities and how they work

GICs (guaranteed investment certificates)

GICs are fixed-yielding notes issued by a trust corporation. Many GICs are insured by the Canada Deposit Insurance Corporation (CDIC) for up to $100,000 in interest and principal. These are often non-redeemable before their period expires.

Bonds

A bond is a debt or obligation made by an investor to an issuer (such as the government or a corporation). In exchange, the issuer pledges to return the bond's principal (or face value) on the bond's maturity date and to make regular interest payments (typically every six months). The majority of bonds are issued by governments and enterprises.

Savings Bonds

Savings bonds are not the same as conventional bonds. They are issued by the Canadian federal and several provincial governments. Canada Savings Bonds (CSBs) was a secure investment vehicle that offered Canadians a guaranteed rate of return for many years.

CSBs, which are no longer for sale, normally paid a minimum guaranteed interest rate (compound interest bonds were also available), had no costs, and could be redeemed at any time. It is crucial to note that any remaining CSBs will reach maturity and cease generating interest in December 2021, thus now is the time to redeem them at your local bank branches. Banks will pay the face amount of the note, plus any accrued interest, in cash or as a transfer into your bank account.

Acceptances From Banks (BAs)

BAs are short-term promissory notes issued by a corporation and backed by a large chartered bank's unconditional guarantee (acceptance). BAs provide greater rates than T-bills, as well as higher quality and liquidity than other commercial paper issuers. Commercial paper is an unsecured financial instrument that is often issued to finance a company's short-term commitments.

Treasury Notes

Treasury notes (T-bills) are the most secure kind of short-term debt issued by the federal government. T-bills are extremely liquid and ideal for investors looking for a one- to 12-month investment period. Because they are backed by the government, T-bills are regarded as relatively secure compared to other fixed-income instruments.

Residuals And Strip Coupons

Strip coupons and residuals are instruments that are acquired at a discount and mature at par (100)—" at par" refers to face value. They accumulate interest over time, and while any interest income is not receivable until maturity, a small amount of interest may accrue each year.

• The purchaser must then report the accumulated interest as income to the IRS. Assume an investor now owns a bond with a par value of $100. The bond is now offered at a $95.92 discount, matures in 30 months, and pays a 5% semi-annual yield.

• As a result, the bond's current yield is (5% coupon x $100 par value)/$95.92 market price = 5.21 percent. The difference between the buying price and one hundred dollars. is the revenue from interest. Strip coupons often provide greater yields and might fluctuate more than the price of a bond with comparable conditions and credit rating.

• Strip coupons are a popular choice for tax-sheltered accounts such as Registered Retirement Savings Plans (RRSPs) and Registered Retirement Income Funds (RRIFs) due to the aforementioned benefits.

Mortgage-Backed Securities (MBS) issued by the National Housing Administration

A National Housing Act (NHA) mortgage-backed security (MBS) is an investment that combines the characteristics of residential mortgages with Canadian government bonds. MBS investors get monthly payments that are a combination of principal and interest payments from a pool of mortgages.

Laddered portfolio

A laddered portfolio is an investment strategy that involves buying bonds with different maturity dates. This way, an investor can respond to changes in interest rates in a relatively quick manner. Each position in the portfolio is usually the same size as the next with roughly equal intervals between maturity dates. A laddered portfolio enables the spread of reinvestment risk over the long term, helping to average out the effects of overall interest rate changes.

How to Invest in Fixed-Income Securities

• Investors wishing to diversify their portfolios using fixed-income securities have various alternatives. Most brokers now provide direct access to a wide range of bond markets, from Treasuries to corporate bonds to municipal bonds. Fixed-income mutual funds (bond funds) provide exposure to various bonds and debt instruments for people who do not wish to pick individual bonds. These funds provide the investor with an income stream while the portfolio is professionally managed. Fixed-income ETFs function similarly to mutual funds but may be more accessible and cost-effective to individual investors. Specific credit ratings, maturities, or other criteria may be targeted by these ETFs. ETFs also incur professional management fees.

• Fixed-income investing is a low-risk strategy that earns earnings from assets that provide consistent income. Because the risk is reduced, the interest coupon payments are generally reduced as well. Bonds, bond mutual funds, and certificates of deposit (CDs) can all be used to build a fixed-income portfolio. The laddering approach is one such method that employs fixed-income products.

• A laddering technique provides consistent interest income by investing in a succession of short-term bonds. As bonds expire, the portfolio manager reinvests the principal into new short-term bonds, therefore extending the ladder. This strategy provides the investor with available funds while avoiding the risk of missing out on growing market interest rates.

• A $60,000 investment, for example, may be divided into one-year, two-year, and three-year bonds. The investor splits the $60,000 principal into three equal installments and invests $20,000 in each of the three bonds.

• The $20,000 principal will be rolled into a bond maturing one year after the initial three-year holding when the one-year bond expires. When the second bond expires, the proceeds are rolled into another bond, extending the ladder for another year. As a result, the investor receives a consistent return on investment and might benefit from increased interest rates.

Fixed Income Has Many Advantages

Earnings Generation

Fixed-income investments provide investors with a consistent source of income over the life of the bond or debt instrument while also providing the issuer with much-needed access to capital or money.

Significantly Less Volatile

Fixed-income interest payments can also assist investors in stabilizing the risk-return profile of their investment portfolio, often known as market risk. Stock values can vary, resulting in big gains or losses for investors. Fixed-income products' consistent and reliable interest payments might help offset losses from equity price declines. As a result, these secure investments contribute to the diversification of an investment portfolio's risk.

Guarantees

• Furthermore, fixed-income investments in the form of Treasury bonds (T-bonds) are backed by the US government.

• While not insured, corporate bonds are backed by the financial stability of the underlying corporation. Bondholders have a greater claim on corporate assets than regular shareholders if a corporation declares bankruptcy or liquidation.

• Office of Investor Education and Advocacy, Securities and Exchange Commission. "What Are Corporate Bonds?"

• Furthermore, bond assets maintained at brokerage companies are covered by the Securities Investor Protection Corporation (SIPC) for up to $500,000 in cash and securities. Fixed-income CDs are insured by the Federal Deposit Insurance Corporation (FDIC) for up to $250,000 per individual.

Fixed Income Investment Risks

Although fixed-income products provide several advantages, like with any investments, investors should be aware of several dangers before acquiring them.

Default and Credit Risk

• As previously stated, Treasuries and CDs are insured by the government and the FDIC.

• Corporate debt, while less secure, rates higher in terms of payback than shareholder debt. When selecting an investment, consider the credit rating of both the bond and the underlying firm. Bonds with ratings lower than BBB are considered trash bonds.

• The credit risk associated with a firm can have various implications on the values of fixed-income instruments in the run-up to maturity. If a firm is failing, the value of its bonds on the secondary market may fall. If an investor attempts to sell a bond issued by a failing corporation, the bond may sell for less than its face or par value. Furthermore, Because there is no demand for bonds, it may become difficult for investors to sell them in the open market at a reasonable price or at all.

• Bond prices can rise and fall during the bond's existence. If the investor retains the bond until maturity, the price variations are insignificant because the investor will be paid the face value of the bond. If a bondholder sells the bond before maturity through a broker or financial institution, the investor will get the prevailing market price at the time of sale. Depending on the underlying firm, the coupon interest rate, and the current market interest rate, the selling price might result in a gain or loss on the investment.

Risk of Interest Rates

Fixed-income investors may be exposed to interest rate risk. This danger occurs in a scenario when marketing interest rates are rising and the bond rate is falling behind. The bond would lose value in the secondary bond market in this circumstance. Furthermore, the investor's cash is locked up in the investment, and they are unable to put it to work producing a greater income without incurring an initial loss.

For example, if an investor bought a two-year bond paying 2.5% each year and interest rates on two-year bonds rose to 5%, the investor is locked in at 2.5%. Investors in fixed-income instruments, for better or worse, receive their fixed rate regardless of where interest rates go in the market.

Inflationary Threats

Inflationary risk also poses a threat to fixed-income investors. Inflation refers to the rate at which prices grow in the economy. If prices or inflation rise, the profits on fixed-income assets are reduced. For example, if fixed-rate debt security offers a 2% return but inflation rises by 1.5%, the investor loses money and earns just a 0.5% return in real terms.