A tour of fixed-income securities

When you’re looking at different investment options, the first thing that may come to mind is common stock (shares in listed companies) or maybe even derivatives especially if you engage in international transactions and have to hedge your currency. The two investments listed above are acutely risky as many macroeconomic factors affect their performance. This is where fixed-income securities (also known as debt securities) become our saving grace.


Fixed-income or debt securities promise either a fixed stream of income or a stream of income determined by a formula. These financial instruments arise usually when a company needs to raise capital for a specific project or other endeavours. If they aren’t able to turn to the stock exchange and execute a share issue, they offer debt securities such as corporate bonds or debentures. When you purchase a bond or debenture from a corporate they will promise to pay you an annual or monthly coupon payment (a fixed percentage of the total value of the bond). They also promise to pay you the full face value of the bond at the time of maturity. Your profit is then the difference between the redemption value and the purchase price. A comforting thought about debt securities is that they aren’t tied to the financial condition of the issuer, so you will receive your regular coupon payments.


Fixed income securities are also broken down into 2 further categories that could guide which investments you want to make. These are the money markets and capital markets.



MONEY MARKET


If you are looking for a safe and easy to navigate investment option, money market instruments are for you. This market consists of low risk, highly liquid and marketable securities that are easily accessible for small investors. The first investment to look at is Treasury Bills. Treasury Bills in South Africa are issued by the National Treasury through the South African Reserve Bank. The government T-Bills are issued to raise funds for government expenditure. As the public, we are free to purchase T-Bills at a discount from the face value of the bill. At the end of the maturity of the bill, we get to cash in a profit which equates to the difference between the purchase price and redemption value. If you’re someone who wants a short term gain in not necessarily a long winded time period, T-Bills are perfect because they have relatively short maturities from 4-52 weeks. An added bonus is that Treasury Bill gains are exempt from taxes.


Another money market instrument offered in South Africa and abroad is a Negotiable Certificate of Deposit which is simply a fixed deposit that is negotiable and is the most issued and traded money market instrument in the South African money market. It’s also another highly liquid asset which you can withdraw on demand. If you’re looking to accumulate interest while saving, the bank that offers you a certificate of deposit will pay you the interest accumulated and the principal amount of your investment.


CAPITAL MARKET


So after you’ve looked at money market instruments and you realized that you want something more long term to purchase your dream home in 10 years or raise enough capital for that business, what’s your next move? Next up on our tour is the capital market. Capital markets include treasury bonds and notes, corporate bonds, municipal bonds, mortgage securities (the culprit of the 2008 financial crisis) and government agency securities.

Treasury Bonds and Notes are once again issued by the government and they usually have longer maturity dates. T-notes mature between 1-10 years and T-bonds mature between 10-30 years. The cash flows associated with both of the investment options are the same as the cash flows in T-Bills(mainly regular coupon payments and capital gains at maturity). If you have a set goal for 10-30 years, consider this investment for you and your needs.

Corporate bonds are also bonds issued by companies. If you want to learn which companies release bonds that are worth your investments, refer to the rating agency Moody’s(a very infamous financial institution in SA) to see how they have graded bonds of different companies.


A really innovative capital market asset is a hybrid/convertible bond. These are bonds issued by a company that can be converted into equity(shares) when they mature. You receive the benefits of regular coupon payments and ownership in the firm of your respective percentage. The debt securities world is expansive. The assets listed here are definitely not exhaustive but these are basic assets that cater to those with a small income ranging to those with a couple of extra rands to put into an investment. May this tour have widened your knowledge and view of money markets and capital markets so that you know where exactly to channel your savings and allow your money to work for you.


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Author: Sthandiwe Msomi


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