Tom Meaglia, ChFC®

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November/December 2019

Understanding Fixed Income Yield

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Investors who own shares of fixed income or bond mutual funds* do so for their relative safety compared to equities and for an expected rate of return, or yield. Because economic conditions affect yield, it can vary from one market cycle to the next. Here’s what you need to know if you are or will soon become an income investor.

The Certainties
When you buy U.S. Treasury securities directly, their rates are guaranteed by the full faith and financial strength of the United States government as long as you hold them until maturity. Other types of fixed income securities will also pay you a predetermined rate of return when you hold them until maturity, although lacking the ironclad guarantee of Treasury securities.

Just as with equities, the higher the return promised by issuers of bonds, bills and notes, the more risk buyers will assume. In this case, it’s interest rate risk. This holds true whether you buy bonds issued by county and state entities, or you buy those issued by corporations.

The Misconceptions
Securities with longer maturity dates typically offer higher rates of return, but not always. In times of short-term economic uncertainty, two things can happen. One, the demand for certainty – such as in 10-year U.S. Treasury bonds – becomes greater, pushing yields down. Meanwhile, economic uncertainty can push the yield on two-year bills up. When short-term yield surpasses long-term yield, you have an inverted yield curve. This curve will right itself as economic certainty returns.

Remember that while direct ownership of Treasury securities offers certain guarantees, the same doesn’t hold true for mutual funds that include them.

One Approach
So, what can a fixed income investor do to ensure greater income stability over time? Laddering offers one approach that may minimize risk and ensure liquidity over time. A laddered portfolio might include shares of mutual funds specializing in fixed income securities of two years or less, others between five and 10 years and others consisting only of longer maturities. A financial professional can show you how.

*Investors should consider the investment objectives, risks and charges and expenses of the fund carefully before investing. Contact the issuing firm to obtain a prospectus which should be read carefully before investing or sending money. Because mutual fund values  fluctuate, redeemed shares may be worth more or less than their original value. Past performance won’t guarantee future results. An investment in mutual funds may result in the loss of principal.


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