‘Junk’ bonds: your defence against rising inflation BRITAIN

Cautious investors may need to take on more risk with their bond funds to make a return this year, investment experts are warning.

Bonds are supposed to be a “safe haven” asset class, but 2021 could be an annus horribilis, with expectations of rising inflation denting returns.

So far this year, British government bond funds have lost investors more than 6pc, while corporate bond funds are down 2.7pc. Emerging market bond portfolios are down between 5pc and 7pc, and global bond funds have lost 3pc. High-yield bond funds, meanwhile, have returned 1pc.

Stefan Isaacs of M&G, the asset manager, said this was due to inflation fears. “The market has pushed back on the central banks’ mantra that they will be able to keep monetary policy exceptionally loose in the face of an economic recovery,” he said.

Economies are expected to open up as the vaccine rollout continues. This, coupled with huge fiscal stimulus from governments, suggests inflation is likely to rise, which should in time lead to higher interest rates. This has wor

‘If the economy keeps growing high-yield will outperform government bonds for a while still’

ried bond markets. In Britain, gilt yields, which move in the opposite direction to prices, have moved higher. The 10-year benchmark yield has risen from 0.2pc at the start of the year to over 0.7pc today.

Chris Iggo of Axa, the asset manager, said high-yield or “junk” bonds were less sensitive to interest rate rises as they had fewer years before maturity. Longer-dated bonds are hit harder as more years of higher rates will eat into the real value of their coupons.

Mr Isaacs said there were “reasons to be optimistic” for junk bonds. “The outlook depends on the economy. If it continues to grow, high-yield bonds will outperform government bonds for a while still,” he said.

Mr Iggo recommended that longterm investors add at least 10pc of their portfolio to junk bond funds to take advantage of the higher yields.

Dividends in the UK are unlikely to return to 2019 levels before 2025, making it one of the least-attractive dividend options

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