Uncorelated Assets

Neverland

gadgetmind wrote: »

True enough, but a good spread of equities and bonds has historically done that, and some more.

That very long term average hides some 10-20 year periods of great under and over performance

Neverland

grey_gym_sock wrote: »

going back a bit, to the theory that a mix of shares (higher return) and bond/gilts (lower return) can perform at least as well as shares alone, because rebalancing means selling high and buying low ...

does that only work for fixed-rate bonds/gilts, or also for index-linked? because the inflation risk puts me off fixed-rate. it seems there can easily be several decades when real returns are much higher or much lower than average.

(and that's without trying to call the market. it's hard not to believe that fixed-rate bonds are somewhere near a long-term peak.)

You mean with BoE interest rates at an all time low in their entire recorded 300 year history you think gilts might be at their peeak? :rotfl:

Seriously I like linkers, if you see the chance to buy any at close to par, like NS&I certs or a corporate issue from a decent borrower I would buy them like that

The interesting thing about linkers is that they have only existed in the Uk for about 30 years, so they are quite a new innovation

grey_gym_sock

Neverland wrote: »

You mean with BoE interest rates at an all time low in their entire recorded 300 year history you think gilts might be at their peeak? :rotfl:

well, it's not quite as obvious as you suggest, because yields can always fall further and (more importantly) it's real yields that matter, not nominal. you can read an implicit "market view" of future inflation from the difference between the yields on fixed-rates and index-linked, but historically the market view has sometimes been very very wrong (in both directions, at different times).

gadgetmind wrote: »

Not just fixed rate, but linkers too. The current yields are so low that by buying these you are agreeing to lose a little of your long-term buying power in exchange for hanging onto the rest. Quite some deal!

however, if inflation turns out to be much higher than the market expects, surely fixed-rate will fall a lot further than index-linked.

index-linked is (apart from the small part of your capital which is give up) almost a risk-free asset. fixed-rate is not: it has huge inflation risk.

this is why i'm wondering whether a mix of index-linked and shares, with rebalancing, would (in theory) give as good a return as a mix of fixed-rate and shares, with rebalancing. this would depend on the correlations between the prices of these asset classes (and whether one believes future correlations will be similar).

Neverland

grey_gym_sock wrote: »

well, it's not quite as obvious as you suggest, because yields can always fall further and (more importantly) it's real yields that matter, not nominal. you can read an implicit "market view" of future inflation from the difference between the yields on fixed-rates and index-linked, but historically the market view has sometimes been very very wrong (in both directions, at different times).

So lets see.....RPI was what 3.5% last month?

And the ten year gilt yields 1.8%...

...so that would be a negative real yield of -1.7% per year if inflation doesn't move down...

Neverland

grey_gym_sock wrote: »

however, if inflation turns out to be much higher than the market expects, surely fixed-rate will fall a lot further than index-linked.

index-linked is (apart from the small part of your capital which is give up) almost a risk-free asset. fixed-rate is not: it has huge inflation risk.

this is why i'm wondering whether a mix of index-linked and shares, with rebalancing, would (in theory) give as good a return as a mix of fixed-rate and shares, with rebalancing. this would depend on the correlations between the prices of these asset classes (and whether one believes future correlations will be similar).

Actually the price of index linkers is highly correlated with normal gilts, so if conventional gilts fall the premium that linkers currently trade at will evaporate too

But this isn't such an issue if you buy at close to par and hold to maturity :cool:

What you've got above is the investment strategy I embarked on a few years ago, its just the premium that has to be paid for index linked gilts now that makes it less attractive

SnowMan

One of my major concerns about government gilts (as a private investor) are their considerable attractiveness to institutional investors such as pension funds which pushes down yields.

Pension funds for example receive interest payments gross (compare this with equities where they can't reclaim tax on dividends any longer) and use gilts as an important match against their liabilities.

Their attractiveness to institutional investments appears to be greater than their attractiveness to most private individuals (even allowing for the un-correlation).

As a result you would expect the returns on gilts (from a private investor perspective) to be relatively poor compared to some others asset classes.

The historical figures from the Barclays Equity Gilt Study also show returns on gilts have been less than spectacular over the long term.

Corporate bonds have the disadvantage that in circumstances where equities fall in value is likely to coincide with an economic environment where companies are going under and defaulting on interest payments so the 'un-correlating' effect is less.

I sometimes feel people under-state the risk element of interest for corporate bonds that is required to compensate for the risk of of a company defaulting. If you consider someone investing an amount in a series of corporate bonds over a lifetime, then it only takes one of those companies to fail, defaulting on both income and capital once in a lifetime, for all the investment to disappear.


Consequently (and for personal tax situation reasons and for simplicity also) I have stuck to equities and cash and have avoided gilts and corporate bonds.

I can understand others taking a different approach and holding gilts, corporate bonds and preference shares etc for 'un-correlation' or other reasons but I don't think it essential to hold them as a 'best stategy' (not that such a thing exists).

Perelandra

grey_gym_sock wrote: »

this is why i'm wondering whether a mix of index-linked and shares, with rebalancing, would (in theory) give as good a return as a mix of fixed-rate and shares, with rebalancing. this would depend on the correlations between the prices of these asset classes (and whether one believes future correlations will be similar).

From a "normal" starting position, without rebalancing, I would expect to get the highest overall return from corporate fixed-interest bonds, then fixed gilts, then index linked. Taking into account rebalancing and adjusting for risk, I believe* (not based on much facts) that fixed gilts will give an overall higher return that corporate bonds, but that both will continue to give a higher return than index-linked gilts.

However, as has already been said on this thread at the moment, bonds and gilts are at a high point right now, and I find it very, very difficult to buy into these at the moment!


* usual caveat: most of what I say is based on theory, not experience, so take everything I say with a pinch of salt!

gadgetmind

Perelandra wrote: »

I find it very, very difficult to buy into these at the moment!

I don't hold any as they scare me, but not holding them also scares me!

I've just moved my wife's two old pensions and a more recent stakeholder to a HL SIPP. As a result, that's the last of the gilts gone (other than those held in ITs) as she's now in Vanguard LS100 and a couple of strategic bonds funds, at least one of which is short on UK gilts.

Perelandra

gadgetmind wrote: »

I don't hold any as they scare me, but not holding them also scares me!

I've just moved my wife's two old pensions and a more recent stakeholder to a HL SIPP. As a result, that's the last of the gilts gone (other than those held in ITs) as she's now in Vanguard LS100 and a couple of strategic bonds funds, at least one of which is short on UK gilts.

Funny, isn't it, that the "safe" gilts are scarier than equities!

At least I have the luxury of balancing my low gilts holding with the Mars index-linked pension pot. Not really the same thing at all, but it "feels" better...

gadgetmind

Perelandra wrote: »

Funny, isn't it, that the "safe" gilts are scarier than equities!

I think it was one of the Ruffer guys who recently said that holding them was dangerous, but not holding them was suicidal.

Gulp!