Advantages and disadvantages of investing in public debt
When seeking security, investing in public debt has few rivals. Its very low risk – and a return that, depending on the context, can be attractive – make it a very popular investment option. However, like any financial instrument, investing in public debt has its pros and cons. In this article, we explore the main ones.
What is public debt?
Public debt consists of fixed-income securities issued by the state, autonomous communities, or other local governments and, generally, public bodies. In Spain, there are two main types. On one hand, state debt, which includes Treasury bills, bonds, and obligations. On the other, autonomous debt – which is also state debt – and that of other public bodies.
In Spain, the rise in interest rates has boosted the attractiveness of public debt, particularly Treasury bills. These securities are characterized by their short term – now, 3, 6, 9, and 12 months – and are sold at a discount. That is, their profitability derives from the difference between the purchase price and the nominal value at the maturity date. The minimum investment is 1,000 euros, and one must always invest in multiples of that amount.
State bonds and obligations, on the other hand, are medium- and long-term fixed-income securities. For bonds, the maturity term is between 2 and 5 years; for obligations, the minimum is 7 years. These assets pay periodic interest in the form of a coupon. Usually, the interest is fixed and paid annually. Again, the minimum investment is 1,000 euros.
Autonomous and other public body debt can be short- or long-term. Otherwise, they do not differ substantially from Treasury bills and state bonds and obligations.
The main attraction of public debt is security. The most evident disadvantage reflects this low risk: the low profitability. However, in a relatively high-interest environment, public debt is an interesting alternative to other conservative products, such as bank deposits.
Advantages of investing in public debt
Here are some of the main advantages of investing in public debt.
Security and stability
Public debt is issued by the state, making it one of the safest forms of investment. State bonds, Treasury bills, and obligations are backed by the Spanish state, minimizing the risk of default.
Although Greece nearly defaulted due to the great crisis of 2008, it is very rare for a state to fail to service its debt. In fact, the country ultimately secured the support of the European Union, preventing it from defaulting on its obligations.
Fixed return
Investing in public debt provides steady and predictable income – ideal for those looking to live off returns. Interest is paid regularly, allowing investors to plan their finances with greater certainty.
The latest Treasury bill auctions, held on June 4 and 11, closed with an average interest rate of around 3.4%.
Portfolio diversification
Including public debt in an investment portfolio can help diversify and reduce overall risk. This is especially useful during periods of market volatility, as state bonds tend to be less volatile than stocks.
Accessibility
Public debt is accessible to all types of investors, from small savers to large institutions. In Spain, investors can easily acquire these instruments through banks and online platforms.
Disadvantages of investing in public debt
Investing in public fixed income also has some drawbacks worth considering.
Low profitability
One of the main disadvantages of public debt is that it usually offers lower returns compared to other types of investments, such as stocks or investment funds. The biggest problem is that the returns offered may not be sufficient to offset inflation, and it is difficult to take advantage of the potential of compound interest.
Interest rate risk
Bond prices are inversely related to interest rates. If interest rates rise, the value of bonds in the secondary market will decrease, which can lead to losses if the investor decides to sell before maturity.
Liquidity
Although public debt is generally liquid, certain types of instruments, such as long-term obligations, may not be as easy to sell quickly without incurring losses. This can be a disadvantage for investors who need quick access to their money.
In conclusion, investing in public debt can be an effective strategy for those seeking security and stability in their investments. Likewise, for those looking to diversify their portfolio and reduce risk, public debt can be a valuable option. However, to maximize benefits, it is advisable to combine it with other asset classes that can offer higher returns and help mitigate the effects of inflation and market fluctuations. For example, the real estate sector…