Best funds for UK fixed income

As the UK comes to the end of its interest rate hiking cycle bonds increasingly offer income, diversification and steady growth. Falling inflation also removes a tailwind for fixed income. There are pitfalls, with credit conditions worsening and – potentially – more defaults, but skilled managers should be able to navigate any choppier seas ahead.  

Fixed income investing – the story so far

Investors who had viewed fixed income as a nice, safe alternative to the caprices of the stock market will have had a rude awakening over the past decade. Similarly, those who thought it would provide a reliable source of income may have been surprised to find that a government bond delivered almost no income at all. 

Nevertheless, after a significant and painful shake-up in 2022, when bond prices fell almost as far as stock market prices, some of the traditional appeal of fixed income had been restored.

Fixed income now offers a far higher yield than over the previous decade, alongside portfolio diversification and the prospect of capital stability.

Fixed income solutions for informed investors

The yield on a 10-year government bond, for example, has moved from around 0.2% in 2020, to 4.4% today¹. Investors in corporate bonds (where the bond is issued by a company rather than a government) can expect a 1-2% uplift on a government bond², and investors in higher risk bonds may get 3-4% higher³. These are attractive yields for many investors bruised by the turmoil of stock markets over the past 18 months.

However, there are still elements to watch with bonds. Bond prices could perform poorly if inflation runs ahead, or if interest rates rise. For the time being, it appears that UK inflation is on a sustainable path lower⁴, but there is always room for caution. Oil prices, for example, have been moving higher since the summer⁵ and this could influence the level of inflation.

For corporate bond yields, investors need to keep an eye on default rates. This is the percentage of companies that default on their debt repayments each year. At the moment, the economic environment has proved stronger than many anticipated and defaults have been minimal. However, they may tick higher if companies have to roll over debt at higher cost. In our opinion the most indebted businesses will prove the most vulnerable. Nevertheless, a good fund manager should be able to navigate the pitfalls across the corporate bond market.

The Best fixed income funds from The Best™ Funds List  

For the time being, fixed income funds can resume their rightful place in a balanced investment portfolio, a bulwark against equity market volatility. They are a useful source of high, reliable income and, at the high-quality end of the market, should provide some capital preservation.

These are three active managers we believe are well placed to find opportunities across bond markets. 

1. Janus Henderson Strategic Bond

The fund, managed by John Pattullo and Jenna Barnard, aims to provide long-term income and capital growth by investing mainly in high yield bonds, investment grade bonds, government bonds and preference shares. The managers seek to outperform the Investment Association Sterling Strategic Bond Sector over any five-year period. When it comes to building the portfolio, they look at fundamental factors such as a country’s economic cycle and monetary policy conditions. They also focus on asset valuations, momentum indicators and disciplined management teams.

For stock selection they take a ‘sensible income’ approach identifying quality, growth companies in non-cyclical sectors which tend to have a higher return on capital. They deem some areas of the market as inherently un-investible. This may include developing countries and companies in cyclical sectors like mining and energy.

2. TwentyFour Absolute Return Credit

This is an actively managed short-term bond fund aimed at delivering steady returns in any market environment. The portfolio is simple in nature, with manager Chris Bowie investing a minimum two-thirds of assets into investment grade bonds with a maturity of five years or lower. According to TwentyFour research these are the bonds that have provided potentially good risk-adjusted returns through every market cycle.

Bowie will also invest in a limited number of high yield or asset-backed bonds if appropriate. TwentyFour is a London-based fixed income boutique which has produced compelling and consistent returns since launch. Its largest holdings include bonds issued by NatWest Group and Orange.

3. Artemis Corporate Bond

Manager Stephen Snowden has become one of the most successful managers in this sector since he moved into fixed income research in 1998. He shares decision making responsibilities with long-term colleague Grace Le. The fund benefits from having a very straightforward approach and a clear objective. It is nimble and active, allowing the managers to beat peers by moving positioning during volatile periods. Notwithstanding the challenges to fixed income as interest rates rise, we believe Snowden’s approach makes this in our opinion one of the best vehicles in the space. This fund offers access to a high-quality management team at an attractive cost.

Bestinvest can make investing as straightforward as it should be

How do you decide where to invest your money when there are thousands of funds to choose from? Sifting through them is a mammoth task – that’s why we created The Best™ Funds List. It’s our take on the ‘best’ funds available. You can download your copy today.

If you would like an expert’s perspective on your investment strategy, you can book a free coaching session, and talk to a qualified financial planner about your investments and financial goals.   

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Source

1. Search - MarketWatch
2. Moody's Seasoned Aaa Corporate Bond Yield (ycharts.com)
3. ICE BofA US High Yield Index Effective Yield (BAMLH0A0HYM2EY) | FRED | St. Louis Fed (stlouisfed.org)
4. UK grocery inflation falls for seventh consecutive month (ft.com)
5. Commodities - Live Quote Price Trading Data (tradingeconomics.com)

 

Important Information

By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article. This briefing does not constitute advice nor a recommendation relating to the acquisition or disposal of investments. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. Details correct at time of writing.

The value of investments, and the income from them, may go down as well as up and investors may not get back the amount originally invested.

Bonds issued by major governments and companies will be more stable than those issued by emerging markets or smaller corporate issuers; in the event of an issuer experiencing financial difficulty, there may be a risk to some or all of the capital invested.  Current or past yield figures provided should not be considered a reliable indicator of future performance.