Gilt yields could go anywhere from 1% to 5%, warns Fidelity’s Spreadbury

Fidelity’s bond fund manager Ian Spreadbury has warned that yields on 10-year UK gilts could fall below 1%, but the risks are ‘asymmetric’ for investors.

Speaking at the Fidelity Investment Summit, Citywire A-rated Spreadbury said although the UK is perceived as a ‘safe haven’ amid the eurozone turmoil, its status is fragile given the size of the country’s debt.

‘I think yields can go lower, but the risks are asymmetric,’ he said. ‘It’s possible yields could go below 1% on 10-year bonds, although it is unlikely. If people worry about the credit quality of the UK, though, yields could rise to around 5%.

‘Yes, there could be upside, but interest rate risk is substantial. You will be hurt quickly if you have high duration and rates go up.’

On Wednesday 10 year gilt yields hit a new low of 1.736%

With limited upside and high potential downside, Spreadbury is diversifying his bond holdings and betting on potential falls through credit default swaps (CDS).

‘I have gone short 10-year Japanese government bonds via futures,’ he said.

‘This way, I can calculate my downside risk, and have protection if things blow up. It’s a cheap trade, and I’m happy to sit on it.’ He said this position forms around 7% of the portfolio.

The fund also holds a CDS against Spain, which amounts to around 2.5% of the portfolio. Spreadbury added that he is not playing for default, but for the mark-to-market moves.

In terms of his long positions, he said there is better value in investment-grade corporates than gilts. ‘Look at bonds like Tesco (TSCO.L)’s – I’m getting paid double gilt yields, of around 4%,’ he said.

‘So there’s relative value in the corporate market, risk is lower and there are higher returns.’

Although Spreadbury sees value in high yield, he prefers investment grade because in a double-dip scenario, high yield would come under pressure.