Investors can get exposure to bonds through funds run by a fund manager, but there are several different types of bond funds:
- Corporate bond funds – focus on higher-quality, investment grade bonds issued by companies. Compared to high yield bonds they have a lower risk of default and are more likely to be able to repay their debts. They tend to offer lower yields as a result.
- High yield bond funds – invest in bonds paying higher levels of income. This compensates investors for the extra risk taken, because these bonds are issued by companies that are less likely to be able to pay off their debts.
- Strategic bond funds – have the freedom to invest across the bond markets, including government, corporate and high-yield bonds. They also have some flexibility to invest overseas. Some focus more on paying a high income. Others focus more on growing or sheltering investors' wealth.
- Global bond funds – invest in government and corporate bonds issued globally. They also hold bonds denominated in currencies other than sterling. This means they might have a lot of exposure to foreign currencies. Similar to strategic bond funds, their objectives vary from fund to fund.
- Gilt and index-linked gilt funds – mainly invest in bonds issued by the UK government. They typically have a lower risk of default and lower yields than corporate bonds. Index-linked gilts typically increase any income paid, and the capital repaid at redemption, in line with inflation.
Our view on the Bonds sector
Bonds usually pay a fixed rate of interest. So they can be useful to generate an income. They're often viewed as ‘lower risk’ than investing in a company’s shares. This means they can help limit some of the volatility that normally comes with investing purely in the stock market. We believe bonds can play a part in a diversified portfolio. But a number of risks have built up that investors should be aware of.
Bond markets have generally risen strongly over recent years, but as a bond’s price rises its yield falls. And given the very low level yields are now at, the scope for significant further gains is limited and the income on offer has reduced. This means there are lower potential rewards on offer for taking on the risks of lending to companies and governments. There's also more room for yields to rise and prices to fall. So investors could see more volatility in this area of the market than they've been used to in recent years. It increases the potential for capital losses.
The main risks to bond investors are a faster-than-expected rise in inflation or interest rates (interest rate risk), a slowdown in economic growth that makes it harder for companies to pay their debts (default risk), or a broad sell-off across the market that makes it difficult to sell bonds at a reasonable price (liquidity risk).
That’s not to say bonds should be ignored. They still have the potential to perform well and have provided some shelter during times when share prices have faltered. This highlights the benefits they can potentially bring to a diversified portfolio. While we don’t think interest rates will rise quickly in the short term, it’s important investors are aware of the risks associated with investing in bonds.
Our Wealth Shortlist features bond funds chosen by our analysts for their long-term performance potential.
Please remember past performance is not a guide to future returns. Where no data is shown, figures are not available. This information is provided to help you choose your own investments, remember they can fall as well as rise in value so you may not get back the original amount invested.
The coronavirus pandemic continues to cause an unprecedented level of disruption for many people and companies all around the globe. In the UK we’ve seen great progress with the vaccination rollout and the re-opening of society. This hasn’t been problem free though, with large numbers being ‘pinged’ to isolate threatening to derail some of the progress made.
Economic reopening’s have prompted more positive growth outlooks while bond markets have also been digesting the outlook for inflation, and in turn what this could mean for interest rates. A wave of higher demand could provide a tailwind for growth in the economy. When we see a big pick-up in demand, we also need to consider what that could mean for inflation, specifically how high it could rise and how long this will last for. If it’s thought to be temporary and falls again after an initial rise, central banks could be willing to look past it. But if inflation sticks around for a while and stays above the Bank of England’s 2% target, they might need to raise interest rates to try and curb it.
Bonds have traditionally been a natural hunting ground for income seeking investors, largely due to the fixed level of interest they pay and their ability to offer some shelter against falling share prices. And interest rate cuts from the Bank of England, the US Federal Reserve and many other central banks around the world in recent years has meant that the value of many of these bonds have risen. But as bond prices rise, their yields fall. The 10-year gilt yield, which represents lending money to the UK government for 10 years stands at just 0.53% at the time of writing, which when considering the eroding effects of inflation, effectively offers a negative real yield to investors.
Bond Market – Annual Performance (31 July 2020 - 31 July 2021)
Past performance is not a guide to the future. Source: Lipper IM to 31/07/2021
The highest returns over the last year out of all of the major Investment Association (IA) bond sectors were delivered by the IA £ High Yield sector with a return of 10.7%. High yield bonds pay higher levels of income. This compensates investors for the extra risk taken, because these bonds are issued by companies that are less likely to be able to pay off their debts, often leaving them more exposed to things like lockdowns. As economies have reopened these previously unloved bonds have rebounded well. Gilts delivered the lowest return, falling 4.7% over the last 12 months. As the yields on bonds rise, their prices fall delivering a capital loss. Past performance is not a guide to the future.
The fund reviews below are provided for your interest but are not a guide to how you should invest. For more information, please refer to the Key Investor Information for the specific fund. Remember all investments can fall as well as rise in value so you could get back less than you invest. Past performance is not a guide to the future.
There is a tiered charge to hold funds with HL. It’s a maximum of 0.45% a year – view our charges.
Comments are correct as at August 2021.
Wealth Shortlist fund reviews
The fund aims to generate a combination of income and growth over the long-term. Its investment process blends 'top down' macro-economic research with 'bottom up' fundamental analysis of individual companies' bonds. The macro analysis involves building up a picture of where countries are in the economic cycle as well as considering the implications of monetary and fiscal policy for key indicators like inflation and interest rates. This helps Stephen Snowden evaluate which sectors and areas of the economy could benefit from any trends or shifts that might be occurring. This macro-economic research is combined with 'bottom up' analysis of bond-issuing companies.
Snowden has delivered strong performance over the long term, outperforming the wider corporate bond peer group average. Although, please remember past performance isn’t a guide to the future. The fund may invest in derivatives and high yield bonds which if used adds risk.
The fund has the freedom to invest across the bond market, allowing Ariel Bezalel to take more risk when the outlook is good, but be more conservative when he’s feeling more cautious. The manager analyses the state of the economy, building up a picture of how he thinks things will develop and then uses this to help him decide where to invest. The fund can invest in emerging market bonds which adds risk.
He’s a talented and experienced manager whose calls on the economic outlook and ability to select successful bonds within certain sectors has added value for investors over the long term. Although, please remember past performance isn’t a guide to the future. At least 70% of the fund will be invested in bonds bought and sold in British pounds or hedged back to Sterling. The fund can invest in high-yield bonds and derivatives, which increase risk.
The fund’s manager Jim Leaviss has the flexibility to invest across global bond markets and currencies and we think he has the experience and resources to do an excellent job for investors. The fund isn’t focused on providing a high income like some other bond funds, but it could offer useful diversification.
Leaviss starts by building his outlook for economic growth, interest rates and inflation across the globe and proactively adjusts the portfolio in response to changing economic conditions. This helps him decide how much to invest in different areas of the bond market. The fund has performed well over the long term and has delivered returns ahead of the broader global bond sector. Past performance isn’t a guide to the future.
The fund can invest in emerging market bonds, high yield bonds and derivatives, which increase risk. The fund may invest more than 35% in securities issued or guaranteed by a member state of the European Economic Area or other countries listed in the fund’s Prospectus.
Latest research updates
Please note the research updates are not personal recommendations to trade. If you are unsure of the suitability of an investment for your circumstances please seek advice. Remember all investments can fall as well as rise in value so investors could get back less than they invest.
Our expert research team provide regular updates on a wide range of funds.