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Bonds and fixed interest - back to fight another day?

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By MoneyWeek

in Features

Traditionally, fixed interest securities/bonds, particularly government bonds (gilts), which is usually their safest form, were seen as the standard hedge within client portfolios against the more volatile risk of equities.

However, after the global financial crisis 10 years ago and the introduction of quantitative easing (QE), it became harder and harder to justify holding fixed interest securities in client portfolios due to their lack of yield. Cash was the better defence against equity market falls despite yielding nothing, it was also free from capital risk.

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The US Federal Reserve is more advanced than nearly every other central bank in moving towards policy normalisation by incrementally and gradually increasing interest rates while simultaneously selling back some bonds to the market. This has driven up yield on the 10-year US Treasury bond to 3.2%, well in excess of US inflation at 2.3%. Even the yield on two-year US paper at 2.9% now surpasses this. For the first time in years, US investors can get a real return from their national government bonds.

This is causing us to consider whether government bonds might resume their risk-diversifying role and warrant a place in client portfolios. As well as moves to policy normalisation and rising interest rates starting to help bonds fight back, historically, when market turmoil hits shares, gilts have been seen as a safe haven asset that tended to hold their value and/or even go up in price. If 2019 equity markets continue their turbulent path, there could be good reasons to turn to this out-of-favour asset class.

Since the global financial crisis, the world's central banks have been conducting an unprecedented experiment in monetary policy. By crunching short-term interest rates down to zero or below zero in the case of the European Central Bank, Switzerland, Sweden and elsewhere while buying up quantities of fixed interest stock, central bankers drove longer-term interest rates to unparallelled low levels. At its zenith, QE meant that around US$13trn of bonds worldwide yielded less than zero.

The FTSE Gilts All Stocks Index, including interest payments, has now fallen 5% from its high in August 2016. With the yield on the UK 10-year gilt still only 1.5% today, there may be some way to go before private client investors are tempted back into the UK fixed income market; still more so in Japan and Europe, where yields are significantly lower. The uncertainty around how Brexit will play out also complicates the picture.

The information contained herein is based on materials and sources that we believe to be reliable, however, Canaccord Genuity Wealth Management makes no representation or warranty, either expressed or implied, in relation to the accuracy, completeness or reliability of the information contained herein. All opinions and estimates included in this document are subject to change without notice and Canaccord Genuity Wealth Management is under no obligation to update the information contained herein.

Richard is Canaccord Genuity Wealth Management's Deputy Chief Investment Officer, based in our London office. He is a member of the Asset Allocation and Portfolio Construction committees, as well as chairing the UK Stock Selection Committee. Richard joined Canaccord in June 2015. Prior to this he was Chief Investment Officer at Sanlam Private Wealth, and has extensive experience running Global, European and UK equity portfolios, as well as managing money for high net worth clients. He is an Associate of the Society of Investment Professionals.

MoneyWeek is written by a team of experienced and award-winning journalists, plus expert columnists. As well as daily digital news and features, MoneyWeek also publishes a weekly magazine, covering investing and personal finance. From share tips, pensions, gold to practical investment tips - we provide a round-up to help you make money and keep it.