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What are Gilts?

Contents

Introduction
What Are Gilts
The Pros and Cons of Investing in Gilts
Why is Now a Good Time to Buy Gilts?
Who Should Invest in Gilts
How to Buy Gilts
Conclusion

Introduction

Gilts are bonds issued by the UK government. In recent years, gilts have become increasingly attractive to individual investors due to increasing interest rates, and their tax-efficiency.

In this guide, we’ll break down what gilts are, their pros and cons, and how you can invest in them.

What are Gilts?

Gilts are a type of government bond. When you buy a gilt, you are effectively lending money to the UK government in exchange for periodic interest payments (called coupons) and the return of your initial investment (the principal) when the bond matures.

Key Features of Gilts

  • Issued by the UK government – Issued by the UK government, gilts are generally viewed as safe investments. The UK government has solid investment grade credit ratings of Aa3, AA-, and AA from Moody's, Fitch, and S&P respectively.

  • Fixed interest payments – gilts pay a fixed rate of interest that is set at the inception of the bonds. These payments are known as ‘coupons’. These payments are typically made every 6 months.

  • Different maturities – ranging from a few years to several decades.

  • Traded in the market – meaning their prices can go up or down.

  • Return of principal at maturity - the issuer (HM Treasury) issues gilts with a promise to return your capital at maturity. Maturity is the time when the bond has come to the end of its life and the investor receives their money back.

The Pros and Cons of Investing in Gilts

Pros:

  • Low risk – Since they are issued by the UK government, gilts are considered very safe.

  • Tax benefits – Capital gains from gilts are not taxed, making them attractive for investors.

  • Predictable returns – You know how much you will receive at maturity, and can see a schedule of period interest (coupon) payments.

  • Liquidity – Gilts can be easily bought and sold in the market.

Cons:

  • Low returns – Compared to stocks or corporate bonds, gilts usually offer lower potential profits.

  • Interest rate risk – Buying a gilt at a 3.75% yield may seem attractive now, however if interest rates were to rise you would be locked into a lower rate. This causes investors to sell legacy gilts with lower rates, and can lead to their prices falling.

  • Inflation risk – Like with all investments, inflation will eat away at the real value of returns. For example, if a gilt is yielding 4%, and inflation is 2%, the real return is 2%.

Why is Now a Good Time to Buy Gilts?

In the past, gilt yields were very low, as central banks lowered interest rates to try and stimulate borrowing post the 2008 financial crisis, and then again during the COVID-19 pandemic. However, recent years have seen central banks attempting to combat inflation by increasing interest rates, causing yields to rise and the prices of older gilts issued with low coupons fall.

This presents an opportunity for individual investors to buy them at a discount, and benefit from their tax-free capital gains when they mature.

For example, take a gilt maturing in 2026 with a low coupon of 0.125%:

  • It is currently trading at a discount (<100).

  • The taxable income component of its return (0.125%) is negligible.

  • When it matures, the price will return to its full value (100), giving you a capital gain.

  • Since this gain is considered capital rather than income, the bulk of the yield is tax-free, making it very tax efficient.

This tax advantage makes low coupon gilts an efficient way to earn returns, especially for higher-rate taxpayers.

Comparing Gilts to Other Investments

  • Gilts vs. Corporate Bonds: Corporate bonds often offer higher yields, but they come with more risk as companies can default. Generally speaking corporate bonds will have higher coupons, as such they are more commonly held within ISA wrappers.

  • Gilts vs. Stocks: Stocks are more volatile than gilts, and provide less capital protection. However, they have higher expected returns, which minimises the risk of not receiving a required return target. Stock market index trackers can be a solid choice for investors looking to maximise long run returns, especially if held within an ISA wrapper.

  • Gilts vs. Cash Savings: Cash savings provide the greatest protection of capital (providing for the FSCS limit). Further, flex savings accounts can be accessed on demand without needing to sell a bond at the prevailing market price. However, cash savings are income products (taxed at your income tax rate), making the rates available less competitive if held outside a tax wrapper.

Who Should Invest in Gilts?

Gilts may be suitable for you if:

  • You want a safe and predictable investment.

  • You are looking for tax-efficient ways to invest, especially outside of a tax wrapper such as an ISA.

  • You need to preserve capital.

  • You prefer stability over risk.

  • You are looking for a hedge against stock market volatility.

How to Buy Gilts

You can buy gilts through WiseAlpha. You can also gain exposure to gilts through pooled products such as ETFs, however, pooled products will not be subject to the same tax treatment (free of capital gains tax).

Steps to Buying Gilts:

  1. Determine your investment objectives - Why are you investing? Will you need to make a purchase in a year, a few years? How much will you need to earn to meet your objective? Your investment objectives will help you narrow down a suitable range of gilts

  2. Choose a platform – Open an account with an investment platform or broker. An example of a suitable platform is WiseAlpha, which also offers an IF ISA.

  3. Review tenors and yields – Look at the current market yields for different tenors, decide which gilt you would like to buy based on your investment objectives.

  4. Place an order – Buy through WiseAlpha.

Conclusion

Gilts have become an attractive investment for individuals due to recent economic changes and their tax efficiency. While they may not offer the highest returns, they provide a safe and predictable way to grow your money, especially in uncertain times.

Key Takeaways

  • Gilts are low-risk government bonds suitable for conservative investors.

  • They offer tax benefits, making them efficient for higher-rate taxpayers.

  • The current market environment makes discounted gilts a unique opportunity.

  • While they are safer than stocks or corporate bonds, they have lower return potential.

  • Gilts are easy to buy through brokers.

If you are a higher or additional rate tax-payer looking for a low-risk investment that can help preserve and grow your wealth with high levels of tax efficiency, gilts might be worth considering.

Before investing, always review your financial goals and consult a professional if needed.