Should You Add Hybrid Securities To Your Portfolio?

Often referred to simply as hybrids, hybrid securities can be traded through a brokerage or exchange and provide investors with reliable income rates. These investment securities are single financial products with the combined characteristics of two or more different instruments such as equities or debts. Hybrids securities can be made up of stocks that provide partial ownership of a company, as well as company bonds that provide payments of interest according to set rates and schedules.

Why do many investors prefer hybrids?

Hybrid funds are sought after by many investors over other categories simply because they include both equities and debts. That means they have similar features to bonds like assured payments, as well as similar functions to stocks with prospects for capital appreciation. The combination of debt and equity means only moderate risks, making hybrids a much safer investment.

Hybrid securities also have the potential to provide higher returns compared to other pure debt securities with fixed incomes like bonds. That being said, hybrids do offer lower return rates than other securities with variable incomes such as stocks. That’s why hybrids are the favorite of many conservative investors who don’t want complete exposure to the possible volatility of equity-like stocks.

Investors will typically search for investments with either a high equity growth or a regular return for income or some combination of the two. That’s why the diversification benefits of hybrid investments with high growth and steady income are bonuses for many investors, especially as the rate of returns are usually much better than other types of investments.

Despite having multiple characteristics and features, the short and long term profile for risks and returns are completely different than other investments, which is why they actually have their own asset class. So, rather than trying to fit them into a traditional asset class in a growth or income portfolio, hybrids can be allocated to their own asset class which allows investors to diversify the risks involved with a drawdown of capital value in their portfolio.

Why should you add hybrids to your portfolio?

When investors are attempting to increase their portfolio, they will usually include a variety of high-risk and common stocks. Whereas investors seeking to increase their current income rates will probably look to invest in some debt securities like bonds. Hybrid securities are often preferred by middle-of-the-road investors who want to invest in securities that have characteristics of both stock and bonds.

Another reason you might want them in your portfolio is the market for hybrids is still relatively small with lots of room for growth. Each hybrid security can also be tailored specifically to suit the needs and requirements of each individual investor. So, while many new hybrid issues are currently purchased by small shareholders, retail investors overwhelmingly dominate the vast majority of the secondary hybrid market.

Hybrids have also been significantly resilient in earlier market sell-offs, declining on average by much less than the rest of the market. But diversification is still very important when investors are trading in hybrids. Because significant events can happen at any time to underlying businesses, which significantly impacts their market face. Either way, the structure of the hybrid securities market will continue providing investment opportunities in the future. 

New investors will also find hybrid securities beneficial as they can provide more protection than common stock during company bankruptcy, as hybrid investors are paid before other common stockholders. That being said, investors should always consider all of the fundamental risks associated with hybrids carefully as there is always the possibility of permanent capital loss. While hybrids can allow investors to generate higher yields from their investments, they should always only make up part of your income portfolio.

Final thoughts

In the end, hybrid securities are usually a good idea for first-time investors due to their potential for higher returns compared to other investments, but they also have a higher risk profile. Just remember that by investing a smaller amount, any loss experienced would also be limited. Investors should therefore always analyze hybrid securities carefully before making the decision to invest in them.