Fixed Income  

Short-term bonds can help balance portfolios

Income

Short-term investment-quality bonds or bond funds can also be a useful tool for building portfolios designed to pay an income for clients already in retirement.

Charges

Another important point is minimising cost. Investors cannot control or predict markets, but they can control what they pay to invest. Every pound paid in charges decreases an investment’s potential return. Historically, low yields bring this fact into sharp focus.

The slim margins in bond market performance make it hard for active managers to add value, especially when charges are taken into account. Research bears this out. It has been found that, within the broad sterling diversified bond market, 91 per cent of active bond funds either underperformed their benchmarks or were closed during the five-year period to 31 December 2012. The number jumps to 100 per cent at 10 years and 94 per cent at 15 years. I believe that in large part this is due to charges. Active bond managers need to pay for the expertise and research required, which is usually reflected in their annual charges.

Many people are asking, why now for short-term bonds? But to me, this is the wrong question. A short-term investment-grade bond fund is just a logical expansion of the range of low-cost index bond funds available in the UK. I believe that the ‘right’ question is: what role does a short-term investment-grade bond fund serve in a client’s long-term investment portfolio? The answers are: diversification, managing duration and thus interest rate risk, and the potential for immediate income from short-term, high-quality bonds.

Nick Blake is head of retail at Vanguard Asset Management

Key points

■ Analysis suggests that the long-term risk/return trade-offs for bonds, compared to equities, has not substantially changed.

■ A 100 per cent equity fund, on the other hand, has delivered a long-term average of more than 9 per cent.

■ The slim margins in bond market performance make it hard for active managers to add value, especially when charges are taken into account.