Finding Alternative Fixed Income Investments

Although the 10 year treasury yield has come off the lows from earlier this month the returns for fixed income investments are still lackluster compared to historical norms. The yield the 10 year government bond in the U.S. is only about 2.24%. Canadian investors have to accept an even lower return of 2.11%. But that’s nothing compared to some European countries. According to bloomberg.com, 10 year government bond yields in Germany, France, and the Netherlands are all below 1.00%. This is not very attractive for an investor with a long term time horizon such as myself. But luckily there are other fixed income options for investors.

One choice is to buy foreign government bonds. This can be complicated as it involves currency risk and is not suitable for everyone. But governments in countries that are less politically or economically stable are willing to pay a higher interest rate to borrow money to keep themselves running. India has one of the largest economies in the world, with a nominal GDP of $2.5 trillion. India’s GDP is still highly dependent on its agricultural sector. But the services sector has picked up in recent years and now accounts for 57% of the country’s economy. The yield on India’s 10 year bond was around 8% to 9% over the last several years. But more recently the yield has dropped to around 6.7% today. This represents an adequate return for the risk. In Europe the Greek government has 10 year bonds yielding 5.6%. Personally I would expect a higher return given the risk associated with Greece. In the Americas Brazil’s bond yield is at 9.7%, and Mexico’s is going for 6.77%. The potential for high returns comes with the potential for high risks as well.

Another option to make decent returns by lending is through high yield corporate bonds, or sometimes called junk bonds. According to investopedia, “a junk bond is exactly the same as a regular bond. Junk bonds are an IOU from a corporation or organization that states the amount it will pay you back (principal), the date it will pay you back (maturity date) and the interest (coupon) it will pay you on the borrowed money.” The only difference between investment grade bonds is the credit rating behind the company issuing them. High yield bonds are typically rated ‘BB’ or lower by Standard & Poor’s and ‘Ba’ or lower by Moody’s. High yield bonds can usually offer 5% or higher returns, which is much better than investment grade companies. For example, Advanced Micro Devices, Inc. (NASDAQ:AMD) is issuing bonds with coupons in the range of 6% to 8%. AMD is a household name in the technology community. It’s stock price went up nearly 250% over the last 5 years. Meanwhile Bank of America, which has a higher rating of BBB by Fitch, only issues lower yielding bonds around 3% to 4%. A good filter to use when deciding which company to invest in is setting a minimum market capitalization of $5 billion. This lowers the chances of a default on the bond because the stock of the company has to reach $0 before bond holders are at risk of losing all their money.

It is true that in order to seek out higher returns one must necessarily also take on more risk. However, there are different levels of risks. It’s up to the individual to decide whether or not the extra 2 or 3 percentage points of return is worth the additional risk. Foreign bonds and high yield bonds may be less popular than dividend stocks or traditional fixed income vehicles, but they can turn out to be valuable investments for well informed investors.

This author does not own any shares or bonds of AMD, and does not plan to own either within 72 hours of writing this article.

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