Friday 8 February 2013

Consols, Gilts and QE


I include gilts (UK government bonds) as Level 5 on my Income Pyramid because this is one of the 'safest' investments, being backstopped by the UK Treasury.

However, not all gilts are equally 'safe', and most do not have attractive yields.

For perfect 'safety' we would be looking to lend our money to the Treasury, receive a guaranteed level of return on it, and receive our money back at a specific date in the future. That's how most gilts work. However, unless you buy inflation-linked gilts you would still have an 'inflation risk' - the risk that your money would be worth less when you got it back.

But not all gilts work like that. As a DIY Income Investor I am looking for a good 'real' yield  (i.e. after inflation) with a reasonable prospect of not losing capital. However, most gilts do not have an attractive yield.

In fact I would only be interested in one specific type of gilt - the 'perpetual' gilt, which has no redemption rate. The reason why this is interesting is that sometimes in the economic cycle this perpetual gilt will offer you a reasonably attractive yield, forever. This happens because, although the coupon is fixed, the price fluctuates in line with wider economic conditions.

My perpetual gilt of choice is called Consols 4% (code CN4). I sold my last holding a year ago (January 2012) at a profit. The yield was nearly 5% when I bought them but around 4% when I sold (at the time there were lots of much better yields on offer).

The following 5-year graph shows the strange evolution of the price of Consols 4%.

Chart Showing Financial Data
Source: Digital Look
There is a clear plateau during the whole of 2012 where someone was buying these gilts up to and around 'par' (face value). And that someone was (almost certainly) the Bank of England intervening in the market in what was dubbed 'quantitative easing' or QE. And it is significant that they were bought only up to par value: buying your own debt at more than 100p for a £1 doesn't make much sense.

Now that QE has stopped (apparently) it is noticeable from the chart that the price is sliding down. And the yield is creeping up - nearly 4.2% today. Whilst not terribly exciting, this is more that you can get for cash anywhere; in an ISA this would also be tax-free - as well as being effectively 'risk-free' income. But the downside is that the price is likely to fall further: lock in the yield now and you will miss a higher yield in a month or two. Oh yes, and you better not want your capital back quickly, because the price might continue to fall.

So if you are looking for a perpetual, 'risk-free' yield of, say, 4-5%, which may or may not keep pace with inflation, this might be an interesting one to watch.  Just pick your time with care and don't expect to sell it quickly at a profit.

I am not a financial adviser and the information provided does not constitute financial advice. You should always do your own research on top of what you learn here to ensure that it's right for your specific circumstances.


  1. Couple of small print items that caught me out when buying undated Gilts;

    1. They're callable at the governments convenience , which may not be convenient for you.

    2. They're lightly traded so spreads can be pretty large compared to other Gilts

  2. For gilts, is there a minimum amount you have to buy?

    I'm no expert but I can't see that just now is a good time to be buying these things. I think I prefer 5-6 year investment grade corporate bonds kept in an ISA. The 2018 ICAP 5.5% bond @101.6 looks interesting, and the price of the 2019 Beazley 5.3% bond @102.4 has just dropped after a ratings downgrade caused, as far as I can see, by an overly generous dividend payment.


    1. Anon - quite, now is not necessarily the time to buy. The bonds you identify will pay back your money in the medium term but the yields are not huge. So there is a spectrum of risk and return!