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Investment grade or high yield bonds?

Investment | Fixed Interest Helpful? 13

Asked by Jocky, submitted 24 August 2011.

Open Quote I have a number of Strategic Bond Funds in my ISA. I created a considerable amount of liquidity selling equities recently. Would this be an appropriate time to also buy -

Corporate Bond Funds

High Yield Bond Funds

Index Linked Funds.

End Quote

Answered by Justin on 08 September 2011

Strategic bond funds can choose from pretty much the whole fixed interest universe. That means they might hold investment grade bonds, higher yielding bonds and index-linked bonds. The relative split between these different types of bond will depend on the manager's views on where interest rates, inflation and markets are headed.

For example, investment grade bonds tend to be more sensitive to changes in interest rate and inflationary expectations than higher yielding bonds, while the latter tends to move more in-line with stock markets. Index-linked bonds are unsurprisingly very sensitive to changes in inflationary expectations - 5 year UK Index-Linked gilts are priced (at the time of writing) assuming average inflation of 2.66%, rising to 2.84% on gilts redeeming in 2024. If you expect average inflation to be higher than this you might profit from index-linking versus the equivalent conventional gilts.

Given you probably have a fair mix of the above via the strategic bond funds you already own, the main difference if buying specific investment grade, high yield and index-linked funds will be that you rather than a fund manager can decide the relative mix.

One thing I'd be wary of is having too much exposure to fixed interest in your overall portfolio. In these volatile times it's probably safer to be overweight in bonds than the stock market, but placing an excessive bet on bonds leaves you exposed if bond markets struggle. Having said that, the for as long as stock markets endure difficult times the safer end of the bond market should remain robust, with demand propped up by investors flocking to safety and interest rate rises unlikely.

On balance, if you're pessimistic about stock markets and want to increase bond exposure I'd focus on the safer end of the market, just don't expect exciting returns in the current climate.


Please note this answer does not constitute a recommendation or financial advice and should not be relied upon when making specific investment or other financial decisions. You should always undertake your own research into whether a product or service is appropriate for your needs and, if necessary, use a qualified professional adviser.

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Comment by Jocky at 5:47pm on 08 Sep 2011:

Justin

Thank you.
Informative and helpful,as usual.

Jocky.