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Fixed Interest as an Asset Class

and

What Fixed Interest to hold in a Charity Portfolio

Philip Todd14th May 2013

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Asset Class Returns

10 Years to End Dec 20122013

1 Jan 13 to 9 May 13Period Return

Cumulative Return

Annualised Return

Cash (Base Rate) 33.6% 2.9% 0.2%

FTSE Gilts All Stocks 76.7% 5.9% 0.8%

Index-Linked Gilts All Stocks 103.9% 7.4% 7.7%

Merrill Lynch Corporate Bond Index

80.0% 6.1% 5.0%

IPD UK All Property 75.9% 5.8% 1.7%*

FTSE All-Share 131.7% 8.8% 13.9%

*EstimateSource: Morningstar Direct

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Bonds

Expensive or Cheap?

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UKG10YR - Avr (5.28%) USG10YR - Avr (4.66%)

Source: Bloomberg*Source: The Economist

UK & US Government Bond Yield

US bond yields last at these levels in 1947 – returned -1.6% PA next 30 years.*

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Bond Yields

Interest Yield – the annual gross income expressed as a % of the current value

Cash: £100,000; interest rate 0.5%; annual income £500; interest yield 0.5%

Shares: £100,000 (100,000 shares at 100p); dividend rate per share 3.32p; annual income £3,320; interest yield 3.32%

Gilt: £100,000 worth (£83,319 Treasury 4% 2022 priced at £120.02 = £100,000)

- Coupon is 4%

- Annual income is £3,332.76

- Interest yield is 3.33%

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Bond Yields

• Treasury 4% 07/03/2022 gilt (interest yield 3.33%)

• Current price is £120.02

• But at 07/03/2022 that £120.02 falls to £100

• For your £83,319 nominal of this Treasury 4% 07/03/2022 you will get £83,319 – a loss from now of £16,681

• However, you will receive £1,666.38 every 6 months up to and including 07/2022, a total of £29,994.84

• Gross Redemption Yield is 1.57% (better than cash?; less than inflation?)

Gross Redemption Yield – is a measure of a bond’s future return if it is held to maturity. It is expressed as a % and takes into account the time value of money, accrued interest and any capital gain or loss on redemption. It is expressed as an annual % return.

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Bond Yields

Price Interest YieldGross Redemption

Yield

9 Year Gilt TR 4% 2022 £120.02 3.33% 1.57%

4 Year Gilt £104.24 2.64% 0.26%

25 Year Gilt £132.85 3.58% 2.92%

Treasury 4.25% 2027 £123.34 3.44% 2.31%

Index-Linked Gilt 1.25% 2027

£131.24 0.93% -0.78%*

M&G Corporate Bond Fund

167.16p 3.22% 2.26%

*Prospective Real Redemption rate on projected inflation of 3%Source: Morningstar Direct

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What Fixed Interest to hold in a Charity Portfolio?

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You need to have a view of the world.

In the UK

Economic Backdrop

• Inflation/Deflation - Central Bank finds inflation helpful. The alternatives are growth (proving problematic) or default (unattractive)

• Interest Rate Direction - the next interest rate move is likely to be a rise

• Currency - Sterling has not shown to be a good store of value (and is unlikely to be for the foreseeable future).

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0

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1,000

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3,308

Cumulative UK RPI based at 1947

Source – Office of National Statistics, Ingenious Asset Management

UK RPI post the Second World War

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Financial Repression – Inflation

Source: Office of National Statistics

Ap

r-0

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0%

1%

2%

3%

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5%

6%

UK CPI target (2.0%)

• Grow

• Default

• Debase

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Gold versus Sterling

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Number of Gold Troy Ounces per £1000

Source: Thompson Reuters Datastream

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Norwegian Net “Debt”1

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Norway, General Government Net Debt, % of GDP

Norway, General Government Net Debt % of GDP

Graph Source: Thompson Reuters Datastream, The Economist (*6 Year),

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Fixed Interest Exposure in a Charity Portfolio

• EIB NOK (Norwegian Kroner) 4.25% 2017

- AAA rated Supranational Bond

• M&G UK Inflation-Linked Corporate Bond Fund

- Exposure to index-linked UK Corporate issues – individual issues can be illiquid

• PIMCO Global Real Return Fund

- Exposure to the equivalent of UK index-linked gilts around the world with underweight/overweight views

on geographic and duration positioning.

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