Investment Newsletter January 2015
Premium Bonds? Mike Deverell Investment Manager
“I used to think if there was reincarnation, I wanted to come back as the President or the Pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody.” James Carville, Clinton administration adviser, 1993 We’re often told we shouldn’t underestimate the power of the bond market. It can force governments and central banks to change policies. For example, in 2011 the bond yields of certain European governments went through the roof, forcing a writedown of debt in Greece, changes to fiscal policy by European governments and monetary stimulus by the European Central Bank. The bond market has also historically been a great indicator of economic performance. Bond yields have in the past been used to reliably forecast recessions, and
they have historically been a good signal for the future prospects for inflation and interest rates. So what is the bond market telling us now? The current yield on the 10 year UK government bond (or gilt) is 1.64% per annum. This is the rate of interest you could get if you lent money to the government for the next 10 years. A gilt is seen to be as close to a “riskfree” investment as you can get since it is guaranteed by the state. The UK government has never yet defaulted on a loan so short term gilts are seen as essentially the same risk as cash. Longer term gilts are more volatile but are still seen as low credit risk. Very crudely, you could say that because 10 year gilts are yielding 1.64% pa the bond market essentially thinks interest rates are not going to average more than 1.64% for the next decade.
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