M&G UK Inflation Linked Corporate Bond – Defensively positioned

• Ben Lord thinks investing in short-dated bonds is a good way to beat inflation
• Inflation is currently below the Bank of England’s 2% target in the UK
• The fund has delivered an inflation beating return over the last five years

Our View

The M&G UK Inflation Linked Corporate Bond Fund has been managed since its launch in 2010 by Ben Lord and offers something different to most mainstream bond funds. Bonds, as well as equities, have historically grown faster than inflation. But they can be volatile and fall in value especially in the short term.

Ben Lord aims to avoid most of that volatility by trying to shelter investor’s wealth from inflation rather than trying to grow it significantly. He aims to counter the eroding effects of inflation over time by either meeting or exceeding the Consumer Price Index (CPI).

He’s done a decent job of that so far. We think the fund’s a good option to achieve an inflation-like return in the long run, though there are no guarantees. The latest UK inflation figures show it standing at 1.5% over the previous twelve months, a fair way below the Bank of England’s target of 2%.

The fund doesn’t currently feature on the Wealth 50 list of what we believe are the best funds across the major sectors. We currently have greater conviction in other funds in the Strategic bond sector.

How does the fund invest?

Lord thinks short-dated index-linked government and corporate bonds are a good way to shelter against inflation. Because they mature sooner than longer-dated bonds they’re less affected by changes in inflation and interest rates. So they can offer an inflation-like return, but with less volatility. As a result, Lord’s chosen to invest 33.7% of the fund in government and corporate inflation linked bonds, and a further 37.7% in synthetic inflation linked bonds using derivatives.

When looking at the market for inflation linked corporate bonds, he prefers to invest in the bonds of companies with a high credit quality. 98.7% of the bonds held in the fund are rated as BBB or above, and so are classed as investment grade.

The manager has the freedom to use derivatives to add some corporate bond exposure alongside the index-linked bonds. This additional flexibility gives Lord greater potential to achieve an inflation-beating return, although it does add risk. Lord can also invest in higher-risk, high-yield bonds should he see fit.

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.

How’s the fund performed?

Since launch the fund has done well versus the CPI index in the UK, delivering an inflation beating return and meeting its objective. The fund has also done a good job of sheltering investors against inflation over the last five years, returning 9.3%* compared to inflation of 8.4% over the same period. Please remember that past performance isn’t a guide to the future.

Past performance is not a guide to the future. Source: *Lipper IM to 31/12/2019

Manager’s Outlook

Lord remains cautious on longer dated UK index linked Gilts as he believes that future changes to the Retail Price Index (RPI), which could start to be implemented from 2025, aren’t yet reflected in their prices. He thinks the plans to bring the RPI measure into line with the Consumer Price Index including owner/occupier housing costs (CPIH) could see yields increase and prices fall for longer dated inflation linked bonds.

He also believes that despite the greater clarity now offered by a majority Conservative government, the risk of a no deal Brexit has reduced but hasn’t been eliminated altogether. The UK government needs to conclude negotiations on its future trading relationship with the EU by the end of the 2020 calendar year to avoid this scenario rearing its head again.

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Key Investor Information