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The dangerous lure of High-Yield Debt products

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The dangerous lure of High-Yield Debt products

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Thanks to the rapid decline in interest rates and rising inflation resulting in negative real rates over the past two years, many investors have been forced to search for higher-yielding fixed-income products.

The demand for higher yields has resulted in the birth of many platforms offering fixed-income products in the form of securitized products, revenue-based financing, loans to companies and individuals (p2p), and other higher-yielding bonds & debentures.

The more options, the better it is in terms of choices. However, a fundamental mistake many people end up making is investing in debt products that offer higher yields without giving due consideration to risk factors. The thumb rule is – the higher the risk, the higher the yield.

Many people take a simple approach of checking the credit rating of the debt products before making investments. However, this approach has also been proven faulty as many top-rated products have defaulted in the past; for reference – the entire subprime crisis.

Whenever investing in debt products, keep the following things in mind:

– Focus more on return of investment over return on investments.
– An independent analysis of the fundamentals of the company and future prospects is very important despite the rating.
– Diversify the investments across debt portfolios – here a debt mutual fund can do a better job but if the investment amount is large enough, one can create a portfolio of carefully selected higher-yielding debt products.
The duration/tenure of the debt portfolio should be selected on a careful assessment of the interest rate curve and liquidity requirement.

By keeping the above framework in mind, we at Truemind never recommended FDs of IL&FS and DHFL (which defaulted despite AAA ratings and attractive yields) to our clients.

With numerous options, investing in debt products has become more complex than investing in equity. Therefore, it should be done prudently.

Truemind Capital is a SEBI Registered Investment Management & Personal Finance Advisory platform. You can write to us at connect@truemindcapital.com or call us at 9999505324.



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