Bonds / gilts overpriced or worth it

intowhere

Hi,

I would like to get people's thoughts on holding bonds or gilts as part of a portfolio. Reading online it seems that bonds should be a key part of your investments, even holding the same percentage as your age. However, they just appear too overpriced for me and my fear is that if IR increase the value of my bond fund will just drop. Given the strange times we live in (with rates so low) are bonds the right answer for diversification. I am more on the risk averse side so was thinking of holding more cash to provide diversification. Thoughts on investing in bonds.

DiggerUK

Bonds and gilts are debt. The danger is if the debtor doesn't repay. As a rule of thumb,they have been recommended as safer if they are governments debt, and more risky if corporate. The other risk is if inflation goes beyond the repayment interest.

They are recommended in savings plans, and pensions when approaching retirement age because.........well it's always been written thus.
I could go on, hope you get the opinion that they are not worth the risk..._

sabretoothtigger

Bonds are a payment of cash in the future, thats a great setup in pension funds which want to reduce volatility.

I couldnt really rely on bonds too much when not requiring a cash payout from a portfolio. Theres a certain strategy where they are ideal and its why bonds have been so popular, there is an especially high amount of pensioners in many western economies. If that trend reverses, bonds could be bad

Tom99

[FONT=Verdana, sans-serif]I would be inclined to agree with you in terms of the short term and rather have cash than bonds.[/FONT]
[FONT=Verdana, sans-serif]Having said that I do have some individual corporate bonds HSBC/Barclays etc bought a few years ago and planning to hold to maturity in 2020 – 2026.[/FONT]
[FONT=Verdana, sans-serif]The reason I don't plan to sell them is that the buy/sell spread is quite high, plus the dealing costs, which makes the yield still a reasonable figure based on the net sale price.[/FONT]

[FONT=Verdana, sans-serif]In terms of buying now for example, the yield on HSBC 7 July 2023 is 2.42% which is probably already lower than a 5yr cash fix even before you account for the spread and dealing costs which will lower that return.[/FONT]

[FONT=Verdana, sans-serif]Having said that, they may have a place in a SIPP when you don't want to withdraw money from the SIPP, don't want any more in equities but don't have a cash investment alternative inside the SIPP.[/FONT]

Alexland

Bonds still have a place in preserving value when equities or all assets prices are dropping enabling gains from rebalancing. For conservative portfolios going mostly bonds carries its own risks so it's worth diversifying into property, lower volatility equities, etc.

However for the long term investor with no need to withdraw anytime soon they do act as a drag on the portfolio so it's a trade-off between a comfortable journey versus a better destination. For some people equity volatility might be too much so a mixed portfolio would be better than them staying in cash.

When equity markets are looking fairly valued or expensive I hold bonds but if they look cheap again I would go 100% equities.

Alex

intowhere

I am looking to invest only in bond / gilt funds rather than buying single gilts / bonds. I have the option through my pension to invest in gilt/ index linked / corporate bond funds. Looking at their performance over the past 5 years some have had double digital growth over 2 - 3 years and has a performance of 8 - 9% per year over 5 years. My concern is that I should invest in these funds because that is conventional wisdom to invest in bonds as a hedge against equity going down but a large part of me thinks that the performance of bond funds has peaked because IR are so low and when IRs go back up these funds will incur 10% - 20% losses. What is more likely to happen?

Malthusian

There is no such thing as "overpriced", if people are buying it then it is ipso facto not overpriced. He who gets his wallet out gets to decide what something is worth, those who keep their wallets in their pockets do not.

Bonds are valued at historically high levels because there are investors who are willing to pay a high price for the promise of a fixed return in the future, provided the promiser doesn't run out of money.

If you don't place such a high priority on a fixed income stream as these investors, then bonds may not be for you at present.

If your immediate preference for an alternative is cash, then you should probably stick with that. Bear in mind that retail investors can usually get better rates from minimal-risk cash than the lower-risk end of the bond market (i.e. gilts). Gilts are for institutional investors who can't put their millions in best-buy easy access cash accounts, or investors who are so rich that they are effectively an institution.

Reading online it seems that bonds should be a key part of your investments, even holding the same percentage as your age.

The part after the comma is abject nonsense on a stick. Probably from the wrong country and the wrong era.

ColdIron

In an income portfolio bonds provide a useful income function as well as their traditional role of controlling volatility. In a growth portfolio this is less important (although you can reinvest the interest) and cash may be a viable alternative but be aware that it will also suffer erosion from inflation. There are obvious problems with buying expensive individual bonds on the secondary market as they revert to par approaching maturity, so these are best avoided now, personally I'd avoid bond indexes and ETFs as well

However an actively managed bond fund could mitigate many of these problems. You might look at Strategic Bond funds that can invest across a range of fixed interest types, from sovereign debt, gilts, T-bills through to corporate debt, investment grade through to sub investment grade, long and short duration etc and the manager can manage and alter the allocations according to prevailing market conditions and the objectives of the fund

If you would normally employ a (say) 60/40 equity/bond split and elect to use cash, do make sure you hold that cash as a distinct pot and not swap your investment pot to 100% equity and rely on your rainy day fund as your 'bond' allocation. If you have a distant investment horizon and investing in an ISA, it's not hard to keep your cash in a half decent savings account. If you have a large SIPP in drawdown this option isn't open to you and holding substantial gobs of dead cash isn't terribly appealing so horses for courses

Bonds are not the only alternative asset class to equities and you can achieve some downside protection through diversification into property, infrastructure, wealth preservation, absolute return etc so these shouldn't be dismissed particularly in the SIPP scenario above

Bonds are never going to make you rich, it's not their purpose, and most people accept the trade off of reduced growth for stability and I don't think anything has changed here

intowhere

Bonds are never going to make you rich, it's not their purpose, and most people accept the trade off of reduced growth for stability and I don't think anything has changed here

Wouldn't an interest rate increase change this? I mean gilts are meant to be safe havens, low returns, but wouldn't a 1% IR increase over 18 months batter most bond funds?

ColdIron

intowhere wrote: »

Wouldn't an interest rate increase change this? I mean gilts are meant to be safe havens, low returns, but wouldn't a 1% IR increase over 18 months batter most bond funds?

It depends upon the type of bond, their term, duration and several other factors. Not all bonds are created equal just like equities. 10 year gilts have a low yield, say 1.5%, and acceptable stability. Short dated gilts offer still lower yields but would be little affected by interest rate movements (or much else for that matter). Corporate bonds might yield 3% to 4% but still offer better downside protection than equities and high yield instruments could provide 5%, 6% or higher yields but suffer equity like movements. A Strategic Bond fund can range across all of the above and it's down to the skill of the manager and the objective of the fund so you're not trapped into a single strategy. I wouldn't have a significant proportion of my investments in gilts right now but am happy to use a variety of other bond types including strategic funds, many of which will also be light on gilts at this point in time. This of course will change and react to events

kidmugsy

We parted with our gilts in 2016 because the values were getting silly. But, alas, they got even sillier thereafter. In the matter of interest, though, cash does better if you shop around among the high interest accounts. But cash can't give you capital gains.