What is a fixed rate bond?
A fixed rate bond is a bond that pays the same level of interest over its entire term, in contrast with a floating or variable rate bond. To earn a guaranteed interest rate for a specified term you can purchase a fixed rate bond in the form of a Treasury, corporate bond, municipal bond, or certificate of deposit (CD). Because of their constant and level interest rate, these are known broadly as fixed-income securities.
Is Social Security fixed income?
Yes. Once you start taking social security, it is a fixed amount, so in that sense it is fixed income. But, a fixed income security pays out a set level of cash flows to investors, typically in the form of fixed interest or dividends, until a preset maturity date.
What happens to fixed income securities when interest rates rise?
Fixed income securities have an inverse relationship to interest rates. When interest rates rise, bond prices usually fall, and vice-versa. This is most clearly illustrated in a zero-coupon bond, issued at a discount to par value, with their yields a function of the purchase price, the par value, and the time remaining until maturity. However, zero-coupon bonds also lock in the bond’s yield.
What is the difference between equity and fixed income securities?
Equities, such as stocks, are a different asset class from bonds, also known as fixed income securities. Each asset class features dramatically different structures, payouts, returns, and risks. Stocks generally outperform bonds over time due to the equity risk premium that investors enjoy over bonds.
Are mortgage-backed securities fixed income?
Yes. Mortgage-backed securities (MBS) is one of the most important types of asset classes within the fixed-income sector. MBS are created from the pooling of mortgages that are sold to interested investors.
Basis points refer to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%, or 0.0001, and is used to denote the percentage change in a financial instrument. The relationship between percentage changes and basis points can be summarized as 1% change = 100 basis points and 0.01% = 1 basis point.
In finance, duration is a measure of the sensitivity of the price of a bond or other debt instrument to a change in interest rates. A bond's duration is easily confused with its term or time to maturity because certain types of duration measurements are also calculated in years.
Repurchase Agreement (Repo)
A Repo is a form of short-term borrowing for dealers in government securities. For instance, overnight a dealer sells government securities to investors and buys them back the following day at a slightly higher price. That small difference in price is the implicit overnight interest rate. Repos are typically used to raise short-term capital.
Treasury Bills (T-Bills)
A short-term U.S. government debt obligation backed by the Treasury Department with a maturity of one year or less is known as a T-Bill. These are usually sold in denominations of $1,000. However, some can reach a maximum denomination of $5 million in non-competitive bids. These securities are widely regarded as low-risk and secure investments.
Face value describes the nominal or dollar value of a security, as stated by its issuer. For stocks, the face value is the original cost of the stock, as listed on the certificate. For bonds, it is the amount paid to the holder at maturity, typically in $1,000 denominations. The face value for bonds is often referred to as "par value" or "par."
Commercial paper is a form of unsecured, short-term debt commonly issued by companies to finance their payrolls, payables, inventories, and other short-term liabilities. Maturities on most commercial paper range from a few weeks to months, with an average of around 30 days. It is often issued at a discount without paying coupons and matures to its face value, reflective of current interest rates.