It had been increasingly difficult for individual investors to understand the bond market and its long-term importance by and large. Investors aren’t to be blamed, after all. Some investors still feel that the bond market functions the same way it used to five years ago. Investors take the equity route because their knowledge about fixed-income securities is limited to stocks and mutual funds when it comes to short-term gains and fixed deposits when it comes to going for a long haul. It has changed, things have changed. They have changed for the better.
It is no longer about choosing one over the other. Smart investors don’t run the risk of putting all their money in one place. Before the market starts twisting your arm into menacing your portfolio, have a strong-arm strategy. Diversify your investments and invest to define a well-balanced portfolio for the near as well as distant future.
Importance of investment
A person who invests is automatically perceived as future-oriented and regarded as someone who can manage money well. Not only does the person obtain financial freedom sooner they start investing when you see the money Saved and Growing and your bank account bedazzled with the fresh reaps, the feeling of fulfilment is unusually great.
The more comfortable you are with risk, the bigger returns there will be. Investing in stocks, mutual funds and bonds give you returns. Investing in bonds is easier, simpler, and cost-effective.
If there’s anything we have learnt from the chaotic economic climate of the country in the last few years is that times change, and difficult times reel upon us like clouds in the sky. Sometimes they hover for quite a long time. The safest hideout during situations like these is to wait till the tough times subside. Until then, no risking funds in the volatile market if you don’t thrive in it. This is where bonds have the potential to give you the returns you need to meet your cash flow needs when the market is free-falling.
1. Income generation
Bonds are a fixed source of income. They offer an alternate channel to generate income through interests. The interest is known as coupon rates. The income can be used in planning further.
It allows you to take it up a notch and have bigger financial goals or maybe take that trip to Europe you have been thinking about since you last saw that film or have a destination wedding of your dream or start a cute café in your favourite part of the town. The avenues get bigger and only bigger. The money that you saved will eventually make you more money.
2. Capital Preservation
If it were a cricketer, it would be Mr Dependable. When you need it, you don’t have to work too much to get hold of it. You are assured that your money is in great form even if it’s operating at a speed that matches the Hare and the Tortoise story because that cash is meant to be parked for rainy days while also providing security and assured returns.
A bond is an undisturbed asset that makes up for other losses. It is considered to be a safe place of rest for your funds when the market is moving in unpredictable ways to prevent a loss.
3. Income generation
When you are investing in something for more than five years, keep in mind the inflation rates too. The age-old rants of our grandparents who always say that for 10 Rupees they’d survive the whole month, savings and investments included as opposed to today, when you cannot buy a box of a matchbox. In technical terms, they are referring to Inflation.
The money you save is going to buy less stuff in a year or two. Hence, you are decreasing your purchasing power by not making investments that do not aim to reach the inflation rate in the future. In such cases, the most recommended and adopted investment strategy is to invest in debt instruments that will give you inflation-adjusted returns as equities derive volatility.
Inflation or rise in prices is the enemy of investment. Inflation-protected or inflation-indexed or inflation-linked bonds are the types of bonds that protect your money when its value to purchase goods and services start to diminish. They are directly linked to the inflation rate.
4. Hedge against economic slowdown
As children, while playing in the park, the one game most of us liked was the sea-saw. We seldom found balance with the other person. It was always the highs and lows between two people. Bonds and stocks work the same way. The only difference to note is that an investor can gauge the future of the market with today’s movements.
Bonds make for a well-balanced portfolio, and you are highly unlikely to lose money in the bear market with a bond investment. In fact, the demand for bonds only increases when the stock market is not doing very well.
No matter how good the stock market looks at present, making alternative investment goes a long way. Since bonds have nothing to do with the company’s profit or losses, they are considered to be safe investments at the time of economic slowdown.
Imagine your portfolio to be a superhero ensemble. Each one comes with its unique quality and strengths. While some are courageous, some have the tolerance to pain and can last really long in a fight and pursue their goals with immense energy without risking the lives of others.
Bond is a part of the ensemble that is known for its diversity and stability when push comes to shove. A bond comes with innate quality, and it offers exactly that to an investor’s portfolio.
While investing in bonds, ask yourself the three questions:
How much exposure am I really comfortable with?
What’s the duration I am willing to invest for?
Have I done enough asset allocation?
Why invest in bonds over stocks?
As we established earlier, it is not about choosing one over the other. It is about allowing the whole caboodle to co-exist, so they give you timely returns as per your financial goals. However, to soothe our biases, bonds are often chosen over stocks because they provide assured and predictable income, regularly or at a promised date until they reach maturity.
Bonds are a port investors turn to when the stock market is not any good for them. Bonds is a good way to generate a steady flow of income. An ideal portfolio should comprise 40% bonds, 10% PF, 10% fixed deposits, and 40% equity and mutual funds.
Why not hold cash instead?
Holding cash is not a bad idea. It is good to look at, and you can make use of it any time you want. The returns, however, are nominal on cash when you leave it unattended in your savings account. Also, the purchasing power of cash prevents you from buying the same things as last year as it loses value due to inflation.
Investing in stocks when the market isn’t operating in its favour is nothing short of folly. Holding cash does not keep up with inflation, neither would investing in stocks when the market is on a downward spiral.
Replace cash holding with bonds. The return on bonds may not be as expected during the crash of the stock market, but it would surpass the return on cash.