The Chancellor has failed to calm bond markets amid rising borrowing costs - Aaron Favila/AP Pool
The soaring cost of British government debt is a disaster for Rachel Reeves. But savvy investors have already found out a way of taking advantage to bag a tidy profit.
The yield on the benchmark 10-year British government debt, or “gilt”, has climbed to its highest level since the 2008 global financial crisis. For the Chancellor, the increases in costs threaten to wipe out the financial headroom she left in the Budget.
She may also feel forced to make extra cuts to government spending or raise taxes further in order to boost the Treasury’s position, hemmed in by her own commitment only to borrow to invest not to cover day-to-day spending.
However, for investors, Reeves’ nightmare represents the chance to make some money. Gilts are seeing increased interest from investors. Buying short-dated government debt and holding it until maturity can generate profits with virtually no risk.
Andy Bell, the founder of stockbroker AJ Bell, said monthly buying volumes for gilts were now “about six times higher than they were in autumn 2022” after Liz Truss’s mini-Budget triggered a similar spike in bond yields.
Similarly, Britain’s biggest broker, Hargreaves Lansdown, reported its customers bought more gilts than any other week since October.
So should you invest? Telegraph Money takes you through what you need to know.
The uptick comes after a surge in gilt yields over the past week, triggered in part by concerns about low growth and rising inflation in Britain.
Yields are the interest rate paid on bonds, and the market moves are a sign that investors are demanding higher returns to lend money to Britain.
It isn’t a uniquely British problem. In the US, Treasury yields – which is government debt – have seen similar movements, spurred upwards by concerns that president-elect Donald Trump will introduce inflationary trade and immigration policies.
How to buy (and profit from) gilts
The Government issues a gilt when it needs to borrow money – which is very frequently nowadays.
A gilt always has a face value of £100, a fixed interest rate (called a coupon), paid in two half-yearly instalments, and a maturity date on which the Treasury will give the investor their £100 back.
Private investors can’t buy gilts when they are issued. You must buy them on the secondary market usually through an investment platform, such as Hargreaves Lansdown or AJ Bell, and the gilts are always available at less than the £100 bond value of the bond.
The yield calculation is a complex one which takes account of the present value of money.
The bond has to be held until the maturity date to get these guaranteed returns. Essentially, you’re buying at £95 and selling at £100 a few weeks or months later.
You receive both the coupon during the life of the gilt and the capital gain if you bought below £100 – what’s more, gilts do not attract capital gains tax.
Gilt investing in this way can be more attractive than best-buy savings products on the market.
The Government has never defaulted on its debt and coupon payments, so it’s as close to certain as you’re ever likely to get as an investment.
If money is urgently needed, the bond can be sold before maturity but there is no guarantee what return, if any, will be made. That will depend on the market price at the time and could even be a loss. Aside from the bond price, there are fees to pay which vary between brokers.
Hal Cook, of Hargreaves Lansdown, said: “When buying gilts directly, it’s best to do so if you can hold the gilt to maturity. Maturity means the date that the gilt ends and the government pays you your money back.
“The reason that’s the best way to invest in them is because you effectively lock in your return at the point of investment as long as you hold it until maturity.
“Future short-term fluctuations in prices become just that, fluctuations. If you have to sell before it matures though, you might have to sell at a point where the price has fallen and could have to sell at a loss.”
Take the two gilts above. The top one costs £99.17 per £100 at maturity date and it comes with a coupon of 4.125pc per year. Over its two-year duration, the investor will receive 4.125pc per year as income, and there will be a total capital gain of around 80p for every gilt they buy.
By comparison, if you were to buy the second gilt, the coupon would be lower at 1.25pc per year, however, there would be a total capital gain of £7.33 over the period for every gilt bought.
Mr Cook said: “The key point here is that the overall return for these gilts that mature at a similar point in time is going to be similar, but the make up of that return will vary.”
So how much can you make? The maths is complex and various online calculators give you different results, here’s how to use our one.
You can find a list of gilts and their current market price via stockbrokers. When you have picked the gilt you want to invest in, enter its details in the Telegraph Money gilts calculator.
You need to know the price paid per £100 bond, the date of purchase, the maturity date of the bond, and its fixed interest rate or coupon, and finally your income tax rate. The calculator will immediately give you the tax-free yield of the bond at your tax rate.
Using the second example from the table above, you get a return of 3.87pc. That might not sound a lot, but remember that is after tax, you would have to be securing a much higher interest rate from a traditional savings account of around 7pc to beat it.
