Main principles of fixed income investing

“At its broadest definition, fixed income investing involves lending money to governments and companies who are required to pay interest on that loan or bond, and return your money on an agreed redemption date.

“Once issued, bonds and loans can be traded between investors who buy and sell the right to receive the interest and final maturity payments.”

Neil Mayfield, principal at Mayfield Investment Management, explains that the payment of a regular income, or ‘coupon’, is the return for investors. The obligation to make payments at an agreed time is the ‘fixed’ element.

Within the above broad definition, there is a wide range of investments.

For instance, the coupon can be either fixed or floating and the repayment of the initial investment at the end of the term can also be movable, as some government debt instruments are ‘irredeemable’, meaning they are open-ended with no fixed repayment date.

Mr Mayfield offers some other options: “Zero coupon bonds pay no income but are issued at a discount; the return comes from the capital gain to maturity. Convertible bonds give the holder the option to convert them to shares at a set price and time.”

Within governments bonds, investors can go for lower or higher risks, with respectively lower or higher interest rates and risk rates.

As Mr Telfer says: “Investors can lend to governments including the highly rated and low risk US and Germany through to lower rated and riskier governments such as the emerging market economies.

“Investors can also lend to companies ranging from some of the world’s largest and strong companies through to smaller, more locally focussed higher risk businesses.”

Contract terms can vary significantly by length of contract, whether the interest payments are fixed amounts, or what protection is offered to investors if the borrower gets into difficulties.

In reality, acknowledges Mr Telfer, “it is debatable whether fixed income should be considered as a single asset class or a collection of many asset classes with individual characteristics that all fall under the broad definition of fixed income.”

As a result, there are a wide range of fixed income funds available: broad market global bond funds, funds that focus on particular areas of the market such as government bonds, or high quality ‘investment grade’ corporate bonds, higher risk ‘junk’ bonds, or focus on particular countries or length of investment.

Mr Telfer adds: “There is also a wide range of investment strategies including ETFs and index tracking funds, funds seeking to outperform markets by varying amounts, and more esoteric hedge fund and absolute return strategies.”