Feeling Fixed with Fixed Deposits? Spice Up Your Portfolio with Corporate Bonds
An investment portfolio is like a recipe with investment avenues like fixed deposits, stocks, bonds, etc., its ingredients. No one would want to have a bland meal unless they’ve been advised to. Most of us would love to spice up our meal with something that makes it more delightful! Similarly, many people who’ve invested in numerous reliable investment avenues like fixed deposits look to flavour up their portfolio with something more exciting (albeit a little riskier) and mint some more money. Can bonds, particularly corporate, be that secret tangy sauce? Let’s find it out!
What are Fixed Deposits
Termed FDs in the common parlance, fixed deposits are financial instruments that banks and non-banking financial corporations (NBFCs) offer. They resemble a term deposit where the depositor deposits a certain amount with the institution at a predetermined fixed interest rate and for a specific tenure. Usually, the interest rate offered is higher than that on savings accounts. Thus, with a fixed interest rate that doesn’t fluctuate, no matter the changes across the micro and macro-economic environment, fixed deposits come in as a bankable and steady source helping people multiply their wealth.
Advantages of Investing in Fixed Deposits
Let’s quickly overview some benefits of fixed deposits.
- Security: Fixed deposits are a secure investment option. As mentioned above, the interest and the principal amount remain unperturbed despite fluctuations in the external financial environment. Thus, the investor receives a stable and predictable interest amount periodically (monthly, quarterly or annually).
- Flexible Duration: As an investor, you can customize your fixed deposit and choose the tenure you want. For example, if you need money after a year, you can choose to invest your money for a year and then receive the principal with interest. That way, you can plan your finances well in advance.
- Regular Source of Income: If you choose to receive the interest monthly or quarterly, your fixed deposit becomes a steady source of income for you. It could prove beneficial for you, especially if you’ve been looking for such a source.
- Tax Benefits: Investing tax-saving fixed deposits offers tax benefits under Section 80C of the Income Tax Act in India. Nevertheless, the interest earned often remains taxable unless you invest in specified tax-saving fixed deposits.
- Easy Withdrawal and Loan Against Fixed Deposit: In situations where you need money, you can withdraw your money whenever you want (although with some penalty or loss of interest). However, you can also opt for a loan against a fixed deposit and serve your financial requirements.
Disadvantages of Investing in Fixed Deposits
Beyond the glitter of security and reliability, there exist some disadvantages as well. So, here are some cons of investing in fixed deposits, which is why many people look to diversify, in other words, spice up their portfolio a little with more remunerative investments.
- Low Returns: Fixed deposit interest rates are usually lower than equities or mutual funds. Hence, your principal remains safe. However, the interest you earn may not necessarily keep up with the inflation rate.
- Lock-In Period: Most fixed deposits have a lock-in period that forbids pre-maturity withdrawal. Even if it does, it would incur a penalty or interest loss. Thus, not all fixed deposit types aren’t as friendly concerning liquidity.
- Constant Interest Rate: Fixed interest rates are an advantage and a disadvantage as well. Speaking of the latter, even if the macro interest rates increase, your fixed deposit interest will remain the same.
- No Capital Increment: Fixed deposits do not offer capital appreciation like many other investment options. Thus, the principal amount remains the same and you only earn periodic interest or interest upon maturity.
Thus, the most significant disadvantage, especially for those looking for more returns is the constant interest rate and no capital appreciation. Given the situation, many people would look to venture into other avenues like corporate bonds. However, are corporate bonds a little more exciting than fixed deposits when it comes to returns? After all, everyone invests money to earn returns. So, let’s assess the viability of corporate bonds.
What are Corporate Bonds?
Corporate bonds are debt securities companies issue to raise funds or capital from public or institutional investors. They raise money from external sources to complete larger projects, buy expensive equipment, accomplish geographical expansion goals, etc.
In other words, when a company issues a bond, it looks to borrow money from investors. The bond signifies a commitment to repay the principal amount, which is termed the face value or par value. However, in the meanwhile, the company pays periodic interest to the bondholders at a predetermined interest rate termed coupon rate.
Usually, people consider corporate bonds safer as they have the company’s assets and cash flows as backing. However, investors should evaluate the company’s creditworthiness before investing their money into its bonds. Therefore, while vetting the company’s profile, investor history, offerings, and management team, they should also examine its credit ratings. Companies with a high credit rating usually have a low investment risk associated with them. However, their interest rate also remains low.
Types of Corporate Bonds
While investing in corporate bonds, interests, capital appreciation, returns, etc., depend on the type of bond in which you invest. So, let’s look at some types of corporate bonds.
- Senior Secured Bonds: Backed by a specifically designed collateral, senior secured bonds allow bondholders to use the collateral to recover the money they would lose if the company defaults. The bond prioritizes secured holders during payment of dues before others if the company goes bankrupt.
- Guaranteed and Insured Bonds: It isn’t the issue but an independent third party that guarantees the bonds. Furthermore, these bonds do not have any collateral support but only the creditworthiness, based on which investors invest the money. So, in a way, these bonds are both secure and insecure to invest in.
- Convertible Bonds: These are bonds one can convert into equity shares of the issuer company during specific trigger events at a particular time. The issuer pre-decides the conversion ratio and informs it to the investor. Thus, the market price of convertible bonds considers the expected stock price at conversion. Accordingly, convertible bonds offer slightly lower interest rates.
- High-Yield Corporate Bonds: High-yield corporate bonds have a higher interest rate associated with them as the issuing company might be looking for more stability. Hence, the investors may earn more with such bonds. However, at the same time, they may lose the money should the company’s instability grow.
- Fixed-Rate Bonds: As the name suggests, these bonds pay a fixed coupon rate to investors periodically. Thus, these bonds offer fixed returns and can serve as a steady income source for the investor.
- Floating-Rate Bonds: With these bonds, the investor receives an interest rate linked to an external market benchmark. The rate is reset periodically and updated per variations in the benchmark rate.
- Zero-Coupon Bonds: As the name suggests, with these bonds, investors don’t receive any coupon payments. The bonds are sold at a discount to their face value. The only return investors earn from these bonds is the difference between the discounted issue price and the face value at redemption.
Why Invest in Corporate Bonds?
Here’s why corporate bonds can form an excellent investment for investors looking for solid diversification in their investment portfolio.
- Fixed Interest: With corporate bonds, investors usually receive regular fixed interest payments, thus making them a predictable investor stream. So, for investors looking to create a steady cash flow, corporate bonds go a long way!
- Diversification: Investing in corporate bonds can help investors diversify their investments and spread risk. Bonds may not move in line with other asset classes like stocks. That can serve as a hedge against market volatility.
- Maturity and Yield Variations: Different corporate bonds have varying maturity dates and return yields. It refers to a broader investment variety, allowing investors to invest in bonds tuned with their investment goals and risk appetite.
- Liquidation Priority: If a company goes bankrupt, bondholders are placed in a higher position than stockholders. That helps increase the chances of recovery of a certain amount of their investment during liquidation.
Can Corporate Bonds Spice Up Your Investment Portfolio?
Whether corporate bonds can enhance your investment portfolio, depends on various factors. It includes your investment objectives, risk-taking capacity, the company in which you invest, the returns you’d derive across a particular timeframe, the type of corporate bond in which you invest, the overall macroeconomic environment and more. Thus, you can broaden your investment horizon with a corporate bond. However, what matters is how informed your decision is and whether it is aligned with your investment vision.
If you are a fixed deposit investor and new to corporate bonds, you may begin small with a bond that allows you to invest small sums of money. You can see how the bond performs and then go for the big fish. However, what worked with a particular corporate bond may not necessarily work with the other. Every company is unique. So is every corporate bond. Hence, your research and decision-making abilities can prove pivotal in your endeavours to make fruitful bond investments.
Invest in Corporate Bonds with Altifi!
Unveil a new horizon of investments and begin your corporate bond investment journey with Altifi. We are a platform that lists corporate bond options and helps you make choices with information. Thus, if you are an investor looking for corporate bonds, Altifi has got you covered! Click to sign up with us.
Disclaimer: The contents of this article should not be construed as tax or financial advice. Readers should seek advice from their tax or financial advisor before making any investment decision.