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Dickie Hodges: now is the time to hedge rate rise risk

Dickie Hodges: now is the time to hedge rate rise risk

L&G Bond Dynamic fund manager Dickie Hodges says bond buyers must appreciate the tactical opportunity that lies in front of them.

His comments come five years after the Bank of England's unprecedented step to cut rates to a historic low. Under the guidance of former governor Mervyn King in March 2009, the Bank used all the tools at its disposal in a desperate battle to prevent a collapse in the banking sector and avert a deep recession.

The previous 18 months saw Northern Rock nationalised and huge taxpayer-funded bailouts for RBS, Lloyds and HBOS, while over in the US Lehmans collapsed.

In 2008 King started to cut rates from 5% and in March 2009 used the last left of his wriggle room to cut them to their current 0.5% level.

Some of the statistics on the impact of this move are astounding.

Nationwide chief executive Graham Beale pointed out in a blog that a million first time homebuyers had yet to see a rate rise, while research from campaign group Save our Savers found that savers had lost more than £300 billion from the low rate.

They could lose even more after monetary policy committee member David Miles suggested the 5% level would not seen again for years, if at all.

Legal & General Dynamic Bond R AccL&G's Hodges (pictured) urges people to try and move on from this low rate mind-set and envisage an environment with a higher borrowing rate.

'Five years will feel like a long time for some investors and in many ways it is,' Hodges said. 

'UK interest rates have never stayed so low for so long. But five years is not forever. There was a before and there will be an after.'

While he does not expect rates to rise in 2014 as low wage inflation reduces upward pressure on rates, he says there is a tactical opportunity for bond buyers right now.

'It’s cheaper to buy an umbrella when the sun is shining and it is more effective to buy protection against rising rates now than when they actually start to move and volatility picks up,' he explained.

Hodges said it is too 'simple' to talk about buying short duration instruments when managing interest rate risk, highlighting there are a range of other tools available to manage the short and long-term risks.

'[For example] I have been very active in the interest rate market so far this year compared with 2013,' Hodges said. 

'Last year I kept the duration of the fund relatively low to minimise interest rate volatility but now it’s been brought close to zero in part by using interest rate swaps.

He added: 'I currently have around 30% of the fund invested in shorter-dated assets which should mature over the next three years, by which time we expect to be able to reinvest at higher rates, and in the meantime these assets earn the fund an attractive yield.'  

In the five years to the end of January the L&G Dynamic Bond fund has returned 85.4% versus a 72.44% in its benchmark.

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