Fixed Income Securities
What are Fixed Income Securities?
A fixed income asset is any asset that provides a constant stream of periodic income, the most common form being a bond. Due to the fact that the income is constant, it is easier to value the future cash flows of a bond than it is to do so on a stock or commodity, therefore making fixed income assets fantastic for trading, however inflation can devalue the future returns.
Typically, the yield paid on a fixed asset is inverse to the price (i.e. yield goes up as price goes down). The reasoning behind this is that as an asset becomes more attractive, the issuer (borrower) has to pay less interest to the buyer in order to get the buyer to lend him money. The same applies in reverse. For example:
- A government issues bonds with a par value of $100 and a coupon rate of 5%, so they pay $5 per year
- The bond price falls to $80, so that $5 payment is now an effective yield of 6.25%
- When the government comes to issue new bonds, it will have to offer an interest rate equivalent to the yield currently available on the market in order to sell its bonds