The Risk of Low Risk 22nd May 2020

May 26th, 2020 | News | By Graham Wingar

Why do we invest?

For many investors, the aim is to provide returns over the medium to long term that are greater than that available from cash savings. The trade-off for these greater long-term returns is that you no longer get them in a straight line and your investment value could be down in the shorter term.

The main two asset classes within a typical investment portfolio will be ‘equities’ (stocks and shares of a company) and ‘fixed interest’ (loans to governments and companies). Over the long term, equities have provided greater returns due to their higher level of investment risk as they sit lower in the order to repayment in company liquidation, and also due to companies typically being at a higher risk of default than governments.

These two asset classes have been historically combined to provide a solution which is more akin to typical investors’ risk tolerance. Most investors are not happy or comfortable with the level of historic drops in equity markets (in March the value of the largest 100 companies in the UK was around 35% lower than its highest value earlier this year); drops which many investors would rather not see and to avoid these, will accept lower returns over the long term. The fixed interest assets will often be uncorrelated to equity markets, providing some level of protection when equity markets have periods of decline. This helps reduce the overall risk of the portfolio and often the assets will be included on that basis alone.

It is, however, extremely important not to lose sight of the main reason to invest, which is: “to provide returns over the medium to long term greater than that available on cash savings”.


Why all that preamble I hear you ask?

The lowest risk of the fixed interest assets is those issued by large governments. In the UK they are called ‘Gilts’. In essence, you loan money to the UK Government in return for interest each year (called the coupon) and then receive your investment back at the end of the term. And although they can provide protection against drops in equity markets, we must also consider their effectiveness as an investment.

Currently UK Gilts are being sold at a premium, meaning you must pay more to take them over than they were bought for originally. This means that when the loan is repaid by the UK government at the end of the term, you get back less than you paid for it. This is quite common as investors are willing to pay more when the interest becomes more attractive and are happy to offset the capital loss at the end of the loan against the income received.

What is uncommon however, is this week some UK Gilts yield has turned negative – this is when you have paid more for the Gilt than the interest due to be paid and the value of the loan being repaid.

Currently, if you want to buy a 5-year Gilt (a 5-year loan to the UK government) and held it for the full 5 years, you would receive an annualised return of -0.01%.


It now becomes a very careful consideration as to whether the shorter-term benefits of dampening the risk and fluctuation within an investment portfolio are warranted, given the longer term drag on investment performance. For these reasons we are very cautious to adopt a blanket equity and fixed income split to reduce risk for clients, and more consideration needs to be made to ensure a suitable outcome.

These concerns and considerations are consistently managed within the investment solutions used by Future Asset Management to ensure clients’ long term needs and objectives are able to be met.

I remind you that we are still here, still working and happy to take any queries you may have.