Challenging times

Today, investors face some challenging choices when it comes to investing in bonds, not least because yields are at historical lows and currently below that of UK inflation. As a consequence, too many investors have been tempted to chase higher-yielding bonds, in an attempt to squeeze some return out of what can feel like an unproductive portfolio allocation. This, unfortunately, is an accident waiting to happen – the phrase ‘picking up pennies in front of a steamroller’ comes to mind.

Others are asking whether they should be holding cash, as interest rates and thus bond yields are ‘inevitably’ going to rise, which, as explained later, will dent bond returns, at least in the short-term. This has been a theme, on-and-off, for almost a decade, since the era of low yields began, driven by the Bank of England’s quantitative easing programme in response to the Credit Crisis. Those taking the cash deposit route over this period have paid a heavy price, however, losing 15% of their purchasing power compared to just 3% from being invested in short-term government bonds (hedged to GBP)1. Second guessing interest rate movements is notoriously difficult (read: close to impossible) and placing deposits instead of owning bonds achieves nothing for the long-term investor, as we shall see.

This paper explores – with the help of timeless insights from Benjamin Graham, ‘The Father of Value Investing’, author of the seminal book ‘The Intelligent Investor’ and mentor to Warren Buffett – some of the issues facing investors and how sensible choices can be made, which, while seemingly not very exciting, will get the job done when needed.

(continue reading by downloading the pdf)


(1) Data: Cash = UK 1 month T-bill adjusted by UK RPI; bonds = Citi WGBI 1-5 Year Hedged GBP from 02/1988 To 02/2018 adjusted by UK RPI. Source: Dimensional Returns 3.0.