What are government bonds?
Government bonds are loans you make to a national government. In the UK, they’re known as gilts. In return, you typically receive a fixed rate of interest over a set period, with your capital repaid at maturity. Because they’re backed by the government, gilts are generally seen as lower‑risk than corporate bonds or equities.
For people considering how best to balance returns, risk and tax efficiency, government bonds can be a useful part of a diversified portfolio.
Who are government bonds right for?
Government bonds may appeal to a range of investors, but they may be particularly suited to people looking for:
1. Stability within a long‑term plan
They offer a degree of predictability. Returns rise or fall – for example, because of financial markets’ expectations of future interest rates. But gilts tend to be less volatile than equities. This can help create a smoother investment journey – something many people value when thinking about their future.
It’s important to note that your capital is at risk when investing, your investments may lose some or all of their value, and you may not get back what you put in.
2. A reliable income stream
Gilts pay interest, usually twice a year. For some, especially those approaching retirement or already retired, this can provide welcome consistency. Interest rates have risen in recent years, increasing the income available from government bonds.
3. A defensive element in a wider portfolio
Gilts often behave differently from shares. This makes them useful when building a portfolio designed to weather different market conditions. They can help preserve capital during periods of equity market stress. You might see some turbulence in your stocks and shares during these times, while your bonds could be on a more even keel. It’s important to remember though, that neither bonds nor gilts are risk‑free as they are price sensitive to interest rates changes.
4. Opportunities linked to personal tax planning
Gilts can sometimes offer tax advantages, depending on a person’s individual circumstances and where they hold them – for example, whether inside or outside an individual savings account (ISA) or a pension. A financial planner can help you make the most of tax allowances and reliefs.
Why government bonds can be a tax‑efficient option
The potential tax advantage is one of the features that attract peoples to gilts.
Here are some general principles often considered in broader financial planning:
1. Interest may be treated favourably in some wrappers
Holding gilts inside tax‑efficient accounts – such as ISAs or pensions – can shelter interest payments from tax. For people who already make full use of these allowances, gilts can contribute to a more predictable income stream within a tax-sheltered environment.
2. Capital growth may be exempt in certain situations
Some types of gilt, including index‑linked gilts, may benefit from specific tax treatments. While capital gains on gilts are not typically subject to UK capital gains tax, this is not guaranteed and depends on the specific bond and the investor’s personal circumstances. Tax rules may change, so professional advice is recommended.
3. Gilts can play a role in inheritance planning
Although gilts themselves aren’t exempt from inheritance tax, they can feature within broader estate‑planning strategies, when paired with professional tax advice. For some families, they’re a tool for holding assets with clear valuations and lower volatility. This makes long‑term planning easier.
The advantages of including government bonds
When thinking about how gilts fit within a long‑term plan, several potential benefits stand out:
Low relative risk
Gilts are backed by the UK government, which has a long history of honouring its debt. This provides reassurance that interest and capital payments are likely to be made as expected. But while gilts are typically viewed as low-risk investments, it’s important to note that an element of risk still does exist.
Predictability
The fixed‑interest structure of many bonds can help people budget more clearly and understand what they’re likely to receive and when.
Diversification
Adding gilts to a portfolio can help smooth returns over time. They rarely move in exactly the same way as equities, so they can help dampen the volatility of your overall portfolio.
Flexibility
Investors can buy short‑dated gilts for stability, longer‑dated gilts for higher potential yields, or index‑linked gilts for protection against inflation.
The potential drawbacks
As with any investment, it’s important to consider potential issues:
Interest rate sensitivity
When interest rates rise, the value of existing bonds can fall – particularly those with longer maturities. People investing for shorter periods may find the price movements uncomfortable.
Lower growth potential
Compared with equities, gilts rarely offer high long‑term capital growth. They tend to prioritise stability over capital growth, which may make them less suitable as standalone investments for people seeking higher returns.
Inflation risk
If inflation rises rapidly, the real value of fixed-interest payments can fall. Index‑linked gilts can help offset this, but they also come with their own risks.
Currency considerations
For people investing in overseas government bonds, exchange‑rate movements can affect returns. This adds a layer of complexity that requires careful management.
Where do government bonds fit in a long‑term plan?
For many people, gilts are neither a magic solution nor a secret loophole. Instead, they’re a dependable building block in a thoughtful, well‑designed financial plan. They may help bring balance, diversify risk and support tax‑efficient structures when used as part of a wider approach designed with professional advice.
Government bonds can be a valuable addition to a portfolio. for people focused on:
- Steady, long‑term progress
- Mitigating volatility
- Creating reliable income
- Tax‑efficient planning
But, as always, the right answer depends on your personal goals, risk appetite and circumstances. An experienced adviser can help place gilts in the right context and ensure they support your wider financial aims.
A balanced contribution to long‑term success
Government bonds won’t shoot out the lights, in the investment return they offer. Their value lies in their dependability and in the quiet role they can play within a well‑constructed plan. For people who want to grow and preserve their wealth with confidence, gilts can help create the consistent results that matter over time.
If you’d like to explore whether government bonds could support your long‑term financial plans, please reach out to your usual Rathbones contact or fill out our enquiry form below. We’re here to help.
