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Corporate bonds shine as expensive gilts 'lock in' losses

UK government bonds are incredibly bad value making corporate bonds look attractive, say Jupiter’s Amanda Sillars and Fidelity’s Stuart Rumble.

 
Corporate bonds shine as expensive gilts 'lock in' losses

Yields on gilts, or UK government bonds, are at rock bottom lows, forcing investors to look elsewhere for reliable sources of income.  

Sustained buying of gilts by the Bank of England under its quantitative easing programme - which may be extended today - has pushed the price of gilts to all-time highs. International investors have also sought them as a safe haven from the eurozone crisis. 

But how safe are they really? So expensive have they become as a source of income, investors who buy a 10-year gilt yielding just 1.7% will see a negative real return on their money as inflation remains at 2.8%. 

Watch this video for an explanation of how bond prices and yields work.

Amanda Sillars, fund manager at Jupiter, is seeking greater growth elsewhere as buying government bonds has become a loss-making investment.

'The flows into [US] treasuries, [German] bunds and gilts have been enormous. If you’re paying £120 for your benchmark 10-year gilt you know you’re locking in a capital loss, if you hold it until redemption in 10 years’ time it will redeem at par [face value]. Meanwhile, we’re being paid for that 1.7%, which is way under inflation,’ she said.

Sillars works with Algy Smith-Maxwell, John Chatfield-Roberts and Peter Lawrey at Jupiter, overseeing fund selection in the Merlin multi-manager funds.

She said the team are looking to corporate bonds as an alternative to sovereign debt in the Jupiter Merlin growth , income , worldwide and balanced portfolios.

‘We believe you should avoid developed market debt and look to corporates,' she said.

'Ex-financials, the corporates have really done a fantastic job in improving the quality of their balance sheets, and they have been investing that cash and gaining growth. Corporates have a coupon of 4-6% and these entities are likely to be able to repay that debt.’ 

Sillars is not alone in urging investors to look to corporates for real returns. Stuart Rumble, fixed income specialist at Fidelity Worldwide Investment, said the government’s £325 billion quantitative easing (QE) bond-buying programme and capital flight due to the eurozone crisis have pushed gilt yields down further, which he expects to continue.  

‘UK gilts are perceived to be the safest for bond investments,' Rumble said. 'The scary thing is we’ve had three years of austerity in the UK and across Europe and things aren’t changing; debt is still at five times gross domestic product (GDP), which will take some time to solve, so we’re in a high-risk environment.’

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