With the highly volatile nature of markets, investors often debate whether to invest in equity or fixed-income securities. India VIX spiked by 60% in late February amid tensions between Russia and Ukraine. Such levels of volatility can be deeply concerning.
During such times of high volatility, it is advisable that an investor should look for more opportunities to invest money in fixed income securities rather than riding on the equity-backed roller coaster.
Effects Of The Monetary Policy
In an effort to curb inflation, last month, the central bank Reserve Bank of India (RBI) announced its decision to increase the interest rates. The repo rate spiked up by 40 basis points to 4.4%, while the cash reserve ratio or the CRR went up by 50 basis points to 4.5%.
Bond yields are inversely proportional to bond value. The constantly rising bond yields over the last 18-months led to a decline in the value of debt mutual funds. The 10-year bond yield, now at 7.5%, stood at 5.8% in Jan’21. The RBI has made changes to its monetary policy that can sway a large investor base in favour of fixed income instruments.
What Can Happen Next?
A few analysts have projected that the RBI could increase the rates further this fiscal year by another 25-50 basis points. Moreover, Fitch Ratings believes the RBI could further raise interest rates to 5.9% by Dec’22.
If that happens, we can see a spike in bond yields. Some experts believe investors should hold on to debt funds with a lower time to maturity rather than investing long-term. That way, they can still reap some gain out of those instruments, even if there is some tampering to the rates.
The Never-ending Dilemma: Investing in Equities vs. Fixed Income Instruments
Investors always debate whether to invest in stocks or fixed-income securities.
Let’s have a look at how equity and fixed income investments can influence an investor’s portfolio:
(i) The Risk Factor
You need to be very careful while dealing with equities. When you invest in stocks, you are inherently transferring some risk to your savings. Your entire wealth can get washed off by one downswing.
When it comes to fixed-income instruments, you can sit back and relax. Once you have invested, you don’t have to worry about losing your wealth. You know your guaranteed returns will get delivered on the fixed date that has been guaranteed to you.
(ii) The Return Factor
Taking on a high risk in equity-linked securities can fetch higher returns. You choose the right stocks and your wealth can increase by leaps and bounds.
In fixed-income instruments such as bonds and debentures, you get a fixed amount of return.
It may seem like a better idea to try your luck and slide off towards the vehicle that may give higher returns. But, in reality, it is not that easy. Your money can go either way. You are taking a lot of risk by investing in equity. Your returns may get magnified, but they also might just get compromised.
(iii) The Going concern factor
What if the company you have so fondly invested in goes bankrupt? What happens to your money?
The fixed-income investors are given priority over the equity investors. So, if the company only has a limited amount of funds to disburse, they may distribute it to the bondholders. The equity holders will get paid from what is left after the bond holders’ dues are settled.
Seeking Traditional Fixed Income Instruments in Volatile Times
Investors often turn to traditional fixed income instruments when times are rough; the market conditions are unfavorable or volatile. These instruments indeed provide great support for investors. Let’s have a look at such platforms:
Bank Fixed Deposits
With increasing interest rates, banks can now provide a higher interest rate on your deposits. The risk-averse investors who mount their savings in fixed deposits can now reap the benefits of choosing this mode of investing.
Post Office Schemes
To save yourself from market and interest rate fluctuations, you can also invest in post office schemes that include investments made through National Savings Certificates, the Monthly Income Scheme and Kisan Vikas Patras. These schemes are designed in such a way that they provide higher returns than fixed deposits. Since these platforms are initiated and backed by the government, they have no default risk.
Public Provident Fund
You may stash your investments into safe zones such as PPF, which currently offers a 7.1% return on your holdings. A PPF offers a lock-in period of 15 years and can hold a maximum of Rs 1.5 Lacs from individual accounts. This vehicle enables you to achieve long-term wealth, while also taking care of the tax benefit for you.
RBI Floating Rate Bonds
You can take advantage of interest rate hikes by investing a portion of your savings in RBI Floating Rate Bonds. These are designed specifically to pass on the interest rate benefits to investors. This instrument of RBI comes with a lock-in period of 7-years. So, you have to decide carefully how much money you can do away with, for this horizon. The redemption comes along with a tax deduction. So, if you are investing a large sum of money into this vehicle, you need to think twice about the tax bracket you would fall into and its implications. However, this is an exquisite investment vehicle, if you have some liquidity in your overall portfolio and you are looking at the long-term investing horizon.
During times of high volatility, it is best to hold on to instruments guaranteeing stable returns rather than trying your luck by taking large risks. The fixed-income instruments ensure that you receive timely cash flows at your doorstep, right when you need them. It is highly recommended that investors fall back on the traditional mode of investments, when there are stability or volatility fluctuations in the markets. In such scenarios, these instruments provide a safe haven for all your investing needs.
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