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Home > Investments > Fixed Income

By Oliver Clarke-Williams | Published Aug 01, 2012

Gilt conscience

Much has been written recently about the decline of the headline inflation rate in the UK. Indeed, from its peak of 5.2 per cent in September 2011, the current level of ‘just’ 2.4 per cent represents a significant fall. This is hardly surprising as several key influences on inflation have changed during the past 12 months. It should be noted, however, that the rate is still positive, and continues to be ahead of the Bank of England’s target.

With gilt yields at their lowest levels in living memory, not since the Great Depression has such a paltry return been offered.

The strain on the world economy caused by the financial crisis has resulted in a loss of market confidence. The result of this continuing uncertainty has been that money flooded into gilts due to their perceived safe haven status. Attempts by the Bank of England to relieve the situation through quantitative easing have failed to bring down gilt yields. Gilts currently yield somewhere between 1 per cent and 2 per cent, with the latest inflation figures standing at 2.8 per cent this means investors are effectively volunteering to lose money by buying gilts. This situation seems unlikely to change in the near future. For years gilts have been seen as a form of risk-free investment, but currently this is not the case. This is clearly a problem for investors, particularly for those seeking income with little appetite for risk. Investors should not lose heart however because if they are prepared to spread their wings there are still low-risk, high-yielding solutions out there. IMA statistics show that for five of the last six months the best selling sector was the Sterling Corporate Bond sector. This is hardly surprising, as in many ways the sector performs in a similar way to gilts. Funds must hold the majority of their investments in investment grade bonds, therefore they have a comparable risk level to gilts. However unlike gilts, there is still value to be realised and they therefore offer the prospect of real returns. The UK boasts plenty of good companies with strong balance sheets who are worthy of an investment. The average yield over the past year for a fund within the sector is 3.78 per cent which, while not spectacular, is an acceptable return for the risk being employed and compares favourably with a 2.06 per cent average for the IMA UK Gilts sector.

One of the standout performers within this sector is M&G’s corporate bond fund run by Richard Woolnough. It concentrates on delivering both income and growth and, crucially, aims to outperform gilts. It mainly invests in companies that have been rated A or BBB; these may not be the companies deemed the most safe, but they are still comfortably investment grade. Over five years until the end of June the fund returned 48.88 per cent, compared to 24.22 per cent for the sector and 49.17 per cent for the IMA UK Gilts sector. Over this period the fund was less volatile than the IMA UK Gilts sector and there is every reason to believe it will outperform gilts over the next few years.

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