The name's Bond

In the world of investing, a recession can be a tricky time for making money on your cash deposits. However, with dramatic interest rate cuts and inflation falling to 4.5% this week, bonds could save the day for investors.

When interest rates are going up there is no question as to the benefits of investing in cash as the income you earn on cash deposits increases. However, when interest rates are cut by levels such as the 1.5% we saw this month, savings rates will always follow and this can be worrying for those Contractors looking to protect the spending power of their savings in the bank.

Whilst interest rates and therefore cash income falls, bonds often pay a fixed income on an investment which means the income is unaffected by fluctuations in the base rate. The further the base rate and inflation falls, the more attractive bonds become so now could be a better time than ever to invest in them.

Why is inflation expected to fall further?

There are a number of key indicators that would suggest that inflation is set to fall further over the next year:

We are heading for a recession
With problems in the housing market, banks that won’t lend and consumers spending less, there is far less pressure on inflation and as a result it should start to fall.

Historically inflation is lower following financial turmoil
In previous financial crisis there has been an undeniable trend, after every major recession there is a fall in inflation due to the dip in the amount of credit available. There is no reason to suspect that this time will be different.

Commodity prices rises stall and allow inflation to fall
Energy and food prices are falling back meaning that the official measures of price growth are coming down too.

If inflation continues to fall then the Bank of England will probably cut rates substantially again– this is bad news for cash savers but those holding bonds will be protected by a fixed rate.

It may be advisable to switch your cash savings to investment grade bonds now before the Bank of England slashes rates again as it is widely predicted that they may do this in the coming months and we are predicting capital growth from bond funds as they become more desirable. Risk if default by the underlying institutions that issue the bonds is of course a factor to consider but a good fund manager with a decent pedigree of past performance should be able to avoid picking duff companies even in the current challenging times for business.

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