What are gilts?
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Gilts are another term used to refer to government bonds. These are issued by the UK government to raise money to pay for public services or fund state projects.
Investors buying gilts are lending money to the government, known as the principal, which operates like an IOU. While waiting for the money to be repaid at a specified date in the future when the gilt matures, investors are paid interest at a fixed rate known as the coupon. This payment typically happens twice a year.
Did you know
The name gilt derives from the original certificates issued by the British government, which had gilded edges.
Types of gilts
There are two main types of gilts: conventional gilts and index-linked gilts.
These are the most common form of gilts, or UK government bonds. A conventional gilt guarantees to pay the holder of the gilt a fixed cash payment (coupon) every six months until the maturity date, at which point the holder receives the final coupon payment and the return of their original investment (the principal). Conventional gilts have a specific maturity date.
The owner of the gilt receives two coupon payments a year, with their money returned on redemption. However, rather than being a fixed amount, the coupon varies as it is based on the Retail Price Index, or RPI, a measure of UK inflation. As inflation rises, the coupon and principal is adjusted upwards.
What are gilt yields?
The yield is the annual return an investor that’s bought the gilt after the issue expects to receive as income over the next 12 months.
Bond prices and bond yields have an inverse relationship, so falling gilt prices mean higher gilt yields. When gilt prices rise, yields fall.
Because bonds are traded by investors, the price will also change. That means the yield will change too.
What are the tax rules when investing in UK gilts?
Interest on gilts are paid gross but are liable for income tax unless held in an individual savings account (ISA) or self-invested personal pension (SIPP). Any profits from selling gilts, or when they redeem at £100, are free of tax, including capital gains tax, and don't have to be included on tax returns.
How to calculate the the yield on a gilt
The calculation to figure out the yield is the coupon divided by price, multiplied by 100.
Investors can sell gilts before their maturity or redemption date on what is called the secondary market, through brokers such as via interactive investor.
Those that do so, however, may not recoup their initial investment. This is because the price of the gilt changes – it doesn’t remain at its face value of £100.
If you buy a gilt when it is issued and hold it until expiry, it will be redeemed at its face value of £100, so a gain or loss will depend on whether you paid above or below £100 on the secondary market.
Let’s take the example of the 4½% Treasury Gilt 2034. If you invested £10,000 when the gilt was issued at £100 – the par, or face value – you will expect to receive 4.5% a year (£225 every six months, as gilts tend to pay interest twice a year) and have your £10,000 returned to you in 2034.
What affects the price and performance of gilts?
The main driver of gilt price is interest rates. Gilts with a long lifespan (30 years) tend to offer investors a higher level of interest than a gilt that will mature in a couple of years’ time. Gilts tend to mature five, 10 or 30 years into the future.
When interest rates rise, any new gilts issued come with higher coupons. This makes existing gilts less attractive, causing their price to fall.
The reverse scenario plays out when interest rates are cut. Newer gilt issues pay less in interest, which in turn makes existing gilts look more attractive, as they are paying out more than new bonds. As a result, the older gilt price rises – above its par value (face value) of £100.
Did you know
Gilts were first issued 300 years ago. Since then, the UK government has never failed to return investors the full amount they have ‘loaned’ (the principal) or paid the promised amount of interest (the coupon).
Why invest in gilts?
Gilts are the ultimate low-risk investment due to the security of the issuer, the UK government. A government is very unlikely to go bankrupt. They are considered a safe haven investment that can complement more adventurous investments, such as shares.
Gilts are also safer than other bond types, such as corporate bonds issued by companies. Even the safest corporate bonds, those issued by highly reputable firms with strong balance sheets, are riskier than gilts.
Gilts provide investors with a predictable income stream, with coupons typically paid twice a year.
The downside is that because gilts are low risk, the coupons and yields are lower than riskier bond types.
Buying gilts with interactive investor
Gilts can be purchased through interactive investor. We offer the ability to trade any gilt that is available on the market. If there’s a gilt you would like to purchase please contact us. The United Kingdom Debt Management Office has a list of gilts currently in issue.
Learn more about bonds
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