02 October 2009
Bonds - The last few months have seen gilt prices being pulled in opposite directions. On one hand, prices have fallen when investors have focused on the strength of the economic data suggesting that recovery will occur earlier than previously expected. On the other hand, prices have risen over the past month as investors are once again reviewing the possibility of deflation occurring over the next few years, which would clearly benefit fixed interest products. To cloud the issue further, the Monetary Policy Committee recently extended their programme of purchasing government bonds, which in turn boosted the gilt market. The money market's perception of risk has declined substantially since earlier this year. The yield spread between 3 month LIBOR (the rate at which banks lend to each other) and Bank of England base rate has fallen back to the levels recorded before the financial crisis (about 0.15%). At the height of the financial crisis in September 2008, banks were afraid to lend to one another, fearing bank failures, and the spread widened to nearly 2%.
The performance of corporate bonds has been lively since their low point earlier in the year. In March 2009 the average difference between the returns on bond and gilts was at its widest point for eighty years at 4.4% p.a. This difference has now narrowed to 2.2%, effectively providing a total return from corporate bonds of more than 20% in 6 months. Because of this clearly corporate bonds no longer offer such exceptional value although the yields on offer are still relatively attractive when compared to those available prior to the financial crisis.
Commercial Property - UK commercial property is about to become very attractive to foreign buyers, if it isn’t already. Real values have fallen by up to 50% in some cases and the pound by nearly 30%. Norway’s sovereign wealth fund has stated its intention to invest in UK property as has the US fund manager LaSalle investment, the Australia Future Fund (who recently spent £210m on 1/3 of the Bullring shopping centre in Birmingham). These investors alone will have the potential to arrest the fall in the commercial property markets but, in addition, the major UK house-builders and property developers are looking to raise big money through the stock market in the next few months to ensure they are ready to benefit from any upturn. Although there are still major obstacles for the sector to overcome, not least the shortage of affordable finance, the sector looks sensibly priced at least.