When it comes to investing money, our focus tends to gravitate towards returns. Making smart investment decisions takes care of returns. However, allowing returns to become the driving force does not guarantee the best of outcomes. This is more pronounced in fixed income investments where there is a return ceiling. Evaluating risk factors with greater scrutiny could help make smarter investment decisions.
Yields tell us a one-dimensional story. They tell us only how much return you would make if you began investing money in a bond now and held it until it matured. This narrative is linear and short-sighted. For instance, it doesn’t tell you what your return would be if the borrower defaulted. Or even what would happen if you decided to withdraw prematurely. It is silent on the future trajectory of interest rates. Yields don’t tell us how liquid the underlying bond is either. Most importantly, yields are fickle unlike fixed deposit returns and shouldn’t be the primary reason to enter or exit investments. The YTM (Yield) tends to oversimplify decision making, this could hurt investment performance in the long run.
When it comes to debt, risks manifest in the form of defaults (loss of capital), illiquidity (inaccessible capital), and interest rate risk (opportunity costs). It is important to note that yields provide little or no insight into how these risks will present or what you can do to protect your investments. An investment advisor can assist in managing these risks. Predicting where the markets will go next is impossible. But, a grasp of macroeconomics and analysing yield spreads will point us in the right direction. A financial advisor provides greater insights and will help investors decide the course of action.
By focussing solely on yields you may well miss the larger picture. Navigating these waters with a trusted investment advisor could guarantee better outcomes for you.