Index-linked gilts

aroominyork

Each week the likelihood of high and enduring inflation seems to rise. Why is this not leading to a rise in the price of gilts?

masonic

Inflation linked bonds are influenced by inflation, interest rates and demand. They are valued based on expectations which run ahead of events. Rising interest rates and a more positive outlook regarding the prospects of WW3 will have a negative impact on price, and may also dampen inflation expectations. As the average duration of UK gilts is fairly long, an IL Gilt index is going to be impacted by interest rate expectations to a greater degree than may be seen elsewhere.

Prism

I think it's down to interest rates. My global index linked bond fund has been gradually climbing higher but its intermediate duration

aroominyork

I meant to ask the question about index linked gilts (maybe obvious from the graph I posted).

Prism said:

I think it's down to interest rates. My global index linked bond fund has been gradually climbing higher but its intermediate duration

Yes, and wouldn't enduring inflation make higher interest rates more likely (although this bout of inflation may be less correctable by interest rate rises) and hence make demand for linkers rise?

masonic said:

Inflation linked bonds are influenced by inflation, interest rates and demand. They are valued based on expectations which run ahead of events. Rising interest rates and a more positive outlook regarding the prospects of WW3 will have a negative impact on price, and may also dampen inflation expectations. As the average duration of UK gilts is fairly long, an IL Gilt index is going to be impacted by interest rate expectations to a greater degree than may be seen elsewhere.

So would it be right to say that if people want a safe haven (WW3) they would choose regular non-linked gilts, but if they want a safe haven in an inflationary downturn they would choose linkers?

masonic

aroominyork said:

I meant to ask the question about index linked gilts (maybe obvious from the graph I posted).

Prism said:

I think it's down to interest rates. My global index linked bond fund has been gradually climbing higher but its intermediate duration

Yes, and wouldn't enduring inflation make higher interest rates more likely (although this bout of inflation may be less correctable by interest rate rises) and hence make demand for linkers rise?

masonic said:

Inflation linked bonds are influenced by inflation, interest rates and demand. They are valued based on expectations which run ahead of events. Rising interest rates and a more positive outlook regarding the prospects of WW3 will have a negative impact on price, and may also dampen inflation expectations. As the average duration of UK gilts is fairly long, an IL Gilt index is going to be impacted by interest rate expectations to a greater degree than may be seen elsewhere.

So would it be right to say that if people want a safe haven (WW3) they would choose regular non-linked gilts, but if they want a safe haven in an inflationary downturn they would choose linkers?

Conventional (non-index linked) gilts have a stronger negative correlation with equities than linkers. Linkers are likely to be more forgiving in a rising interest rate and high inflation environment, as holders will be more willing to take a hit on nominal interest (or in current times accept a more negative YTM) to get some inflation protection. But those generalisations come with huge caveats. There is no consistency between one crisis and the next.

coastline

Homepage is full of articles on the subject..

Home (occaminvesting.co.uk)

Looking at Gilts themselves the longer dated stuff isn't exactly going to the moon. As much as I understand there's more fear of economic slow down. The yield curve is flattening. Same happening in the US.

Latest bond rates, interest rates, Libor and interbank rates - FT.com

Decent coverage here..

Jeffrey P. Snider (@JeffSnider_AIP) / Twitter

GeoffTF

aroominyork said:

Each week the likelihood of high and enduring inflation seems to rise. Why is this not leading to a rise in the price of gilts?

Here is a Monevator article on the subject:

https://monevator.com/why-uk-inflation-linked-funds-may-not-protect-you-against-inflation/

My Treasury IL 0.125% 2029 had gone up mightily since I first bought them, and a fair amount recently, when I last looked a few weeks ago. Actually, the current market price does not matter to me. The value on maturity does matter, and it is guaranteed to grow with inflation.

aroominyork

Thanks all. Some interesting points and lots of reading (some done, some to do). One takeaway is that to counter short-term inflation you want short-dated linkers. However, there are no UK short-dated index-linked funds (you can of course buy individual gilts). You could buy a global short-dated index-linked fund but that reflects global rather than UK inflation; if you are buying for short-term income needs rather than as a general hedge against inflation, that might not align with your personal expenditure.

It is interesting, however, that as with conventional gilts a global index-linked fund has similar performance but with less volatility (the blue line is IGLH, global developed world govt bonds). Some people might see that as an opportunity to trade the UK to buy low, sell high (that person would not be me).

masonic

An alternative might be an actively managed index linked gilt fund. I don't think there are many of these (perhaps just one beside the RL one charted above), and I haven't checked, but if the manager shares our concerns about duration, they might have biased towards shorter dated gilts in their fund.

Individual linkers held to maturity would be an option, but in practice this is quite a pain because few brokers allow online trading.

Thrugelmir

GeoffTF said:

aroominyork said:

Each week the likelihood of high and enduring inflation seems to rise. Why is this not leading to a rise in the price of gilts?

Actually, the current market price does not matter to me. The value on maturity does matter, and it is guaranteed to grow with inflation.

Like any investment it's possible to pay over the odds though when purchasing. 

tebbins

That fund has an average maturity of 23 and 1/2 years, so the market is basing the price on 23 and 1/2 years of expectorated inflation. That is enough time for major secular, rather than transitory or cyclical changes to happen. Also interest rates are up, and shorter term inflations expectations tend to make the market favour cyclical equities.
But who knows really.