Index Linked Gilts - a possible walk-through?

[y0rkiebar]

The UK Gov Debt Management Office have a handy redemption yield estimator for IL gilts -> https://www.dmo.gov.uk/data/pdfdatarepo ... rtCode=D9C

You can provide a comma separated list of estimated RPI values to get the various estimates for all IL gilts.

Although I don't understand the results

[Lootman]

The coupon at 0.125% is so small (even after indexing) I didn't bother to work out how much it'd be or how much income tax I'd be paying on it. If I'd been investing a laaarge amount I would have but on the amount I bought I just ignored it.

Depends what you mean by laaarge I guess. Even a million invested would give you a taxable income of only £2,500 annually. Income tax on that is maybe £500 to £1,000 annually, so just 1/1000th or less of the sum invested.

I was actually thinking of cashing out my ISA in the next few months and something like this would be a low-tax place to reinvest it in the short-term

[GoSeigen]

Point of order: When you buy gilts you pay for the gilt itself whose value of course includes the value of any interest "accrued" up to the purchase date. This value, the total price paid for the gilt, is called the dirty price.

Umm, I'm confused, isn't that what I said?!?

Yes but you said that the clean price is the price of the gilt. It is not. The dirty price is the price of the gilt.

To get the clean price the value of interest accrued since the latest payment is backed out of the dirty price (i.e. subtracted). This clean price is generally** the price quoted by brokers because it makes things simpler by only varying as the yield varies, without any contribution from changing proximity to the coupon payment date.

Wait ... are you saying that it's not actually:

Dirty Price = Clean Price + Accrued Interest, but is instead:
Clean Price = Dirty Price - Accrued Interest ?!?!?

If so, well, firstly that seems like a distinction without a difference, and secondly I have never seen it described that way anywhere, and certainly not in contract notes which always list the cost of the consideration as clean price * number of gilts plus accrued interest plus dealing fee. But even if so, what practical difference does it make to the investor? I am, again, confused!

Then you've never read anything I have ever written about accrued interest or the Accrued Income Scheme, which is fine, but there's at least one person who has always described it that way, way back to the days when accrued income was a really big deal with lots of bank bonds in default or with really high yields.

Contract notes break out the accrued interest to make it easier to report tax.

Ultimately the price of a bond is no different to the price of a share. It includes the value of all the cashflows including the one about to be paid.


GS

[mc2fool]

Contract notes break out the accrued interest to make it easier to report tax.

They list accrued interest in addition to the clean-price-based-cost. They don't list the dirty-price-based-cost and say "of which £nnn is accrued interest". But it still seems six of one to me and I don't get what, if any, practical difference it makes....

[mc2fool]

The UK Gov Debt Management Office have a handy redemption yield estimator for IL gilts -> https://www.dmo.gov.uk/data/pdfdatarepo ... rtCode=D9C

You can provide a comma separated list of estimated RPI values to get the various estimates for all IL gilts.

Although I don't understand the results

It's not redemption yield, it's redemption payment. I.e. how much you will get at maturity for each nominal £ amount (unindexed face value) of each gilt, for the rates of inflation between now and then that you supply.

It's basically reflecting the change in RPI from issuance* of the gilt to now* plus your supplied amounts going forward.

* there's actually a 3 or 8 month lag for the RPI figures used, depending on the gilt.

[Itsallaguess]

I've been thinking about inflation linked returns for a little while and noted that some IL gilts are going for below par -- i.e. for a clean and un-indexed price of less than 100.

As the capital return (which is untaxed) will be the change in RPI + the gain to par that told me straight off the bat that I'd at least match inflation (+ a smidgen).

I note there that you've said 'the change in RPI + the gain [back] to par'.

Does that mean that if, for the sake of a simple example, a potential capital gain related to 'discounted 98 clean purchase price back to 100 par' is 2%, but between the time of purchase and time of redemption, the 'change in RPI' is seen to be a drop of 3% (perhaps from RPI 8% to RPI 5% to give an example to get a -3% 'RPI change' figure..), that you'd actually lose 1% on the capital-side trade, which would be the combined effect of those two influences?

If I've got the above wrong, could you show how you'd roughly calculate those two vectors into your own capital-return-assumptions, using the same figures as above?

Cheers,

Itsallaguess

[GoSeigen]

I've been thinking about inflation linked returns for a little while and noted that some IL gilts are going for below par -- i.e. for a clean and un-indexed price of less than 100.

As the capital return (which is untaxed) will be the change in RPI + the gain to par that told me straight off the bat that I'd at least match inflation (+ a smidgen).

I note there that you've said 'the change in RPI + the gain [back] to par'.

Does that mean that if, for the sake of a simple example, a potential capital gain related to 'discounted 98 clean purchase price back to 100 par' is 2%, but between the time of purchase and time of redemption, the 'change in RPI' is seen to be a drop of 3% (perhaps from RPI 8% to RPI 5% to give an example to get a -3% 'RPI change' figure..), that you'd actually lose 1% on the capital-side trade, which would be the combined effect of those two influences?

If I've got the above wrong, could you show how you'd roughly calculate those two vectors into your own capital-return-assumptions, using the same figures as above?

Cheers,

Itsallaguess

RPI is an index, not an annual change figure.

GS

[Itsallaguess]

RPI is an index, not an annual change figure.

That helps to explain my confusion then, and looking at the table below, we can see the 376.4 RPI index figure for June 2023 being stated, which is the one being used in the current YieldGimp figures for their tables too -




Source - RPI All Items Index (with 'Table' option) - https://www.ons.gov.uk/economy/inflationandpriceindices/timeseries/chaw/mm23

YieldGimp Index Linked Gilt Yields - https://www.yieldgimp.com/index-linked-gilt-yields

So with my RPI example earlier, where RPI might potentially drop from 8% to 5%, there would still be a subsequent rise in the RPI index figures, but with a subsequent lower rise being seen with lower monthly RPI figures - that makes sense...

Thanks for helping with my confusion.

Cheers,

Itsallaguess

[Itsallaguess]

‎
Just on a separate but related point to do with a potential trade on index-linked gilts, I've read in a number of places that there can be a bit of confusion over how people correctly assess 'what they're asking for' during any trade-related telephone call, and given this thread is hoped to nudge towards a potential 'walk-through' here, I thought it worth pulling out this point specifically...

If I were looking to invest £15K of capital into TR24, and for the sake of this example we're looking at a 'clean price' of 100, and a 'dirty price' of 150, then what exactly would the purchaser ask for during the trade call?

Would he be able to stipulate just the £15K capital spend, and just say 'all you can get of TR24, including trade costs', as we can do with normal on-line share deals?

Or would he have to manually calculate 'the number of TR24 gilts' he'd be looking to purchase, based on that potential 'dirty price', or would it be a number of 'blocks of gilts' based on a minimum block of TR24 gilts?

Given that these are likely to be telephone call trades, I think it would help to be clear on the above process if anyone new to this area of the market is contemplating making that first call...

As an aside - I'd like to take the opportunity to thank everyone for their useful and patient contributions to this very interesting thread. I long ago lost any qualms about 'asking the daft questions in company', if I thought that by doing so it would help raise the broader understanding of those in the room that might be wondering the same thing, but I also appreciate that doing so still needs the more knowledgeable in the room to be willing to contribute in a manner that's respectful of what's often a simple lack of experience, and so I'm pleased to see that process in evidence here from those more experienced contributors - thank you...

Cheers,

Itsallaguess

[GoSeigen]

‎
Just on a separate but related point to do with a potential trade on index-linked gilts, I've read in a number of places that there can be a bit of confusion over how people correctly assess 'what they're asking for' during any trade-related telephone call, and given this thread is hoped to nudge towards a potential 'walk-through' here, I thought it worth pulling out this point specifically...

For a security I've never traded before I'd typically ask to speak to a dealer, tell them I want to purchase (say) £10,000 nominal of TR24 and could I have an indicative price to buy (or an indicative spread). I'd check the price against my expectation and either call back later to do an actual trade, or if thinking quickly enough, ask to place a firm trade of £11,200 nominal (or however many, it can't be too far from the original size or the MM may not fill) at the indicated price. Alternatively I might put a price to the MM by asking the dealer to buy £12,000 nominal at 105.3p or better (a limit order).

I tend not to set a total price for the purchase as it leaves me too much to calculate and think about on the fly. Others may feel differently. Also I have a slight OCD bias towards purchasing stock in whole numbers (or even powers of two ).

There's no harm in asking the dealer to bear with you as it's the first time you have made an index-linked gilt purchase. They will not find you particularly odd as they have probably handled one of my trades in the past. LOL.

Good luck.

GS
P.S. Don't go mad, I'm not convinced this is a great time to buy gilts, I think UK shares are going to be a wonderful investment from here... The time to buy gilts was 10-15 years ago IMHO. [Risking looking stupid...]

[mc2fool]

‎If I were looking to invest £15K of capital into TR24, and for the sake of this example we're looking at a 'clean price' of 100, and a 'dirty price' of 150, then what exactly would the purchaser ask for during the trade call?

Would he be able to stipulate just the £15K capital spend, and just say 'all you can get of TR24, including trade costs', as we can do with normal on-line share deals?

Yes.

BTW, it's worth mentioning here, as it's a potential source of confusion for when you hear/see how many you've acquired, that while the price of a conventional gilt (just to sidestep the matter of indexing for simplicity for the moment) is quoted in terms of price per £100 of face value (nominal), the actual trade cost (and par value) of an individual gilt is 1/100th of that.

So, if you see that, e.g. TN24 is selling at £97.50 then spending that much (clean, ignoring accrued interest and broker charges) will get you 100 gilts. Further, you can trade down to a penny's worth and get fractions of a gilts; were you to spend £100 for it (with the same ignores) you'd get 102.56 gilts.

The same is true of index linkers, at least in terms of cost, but, of course, there's the complication of the unindexed price per £100 of nominal being quoted whereas the actual cost is the indexed price. In my recent purchase of TR24 I paid 151.477716 pence for each one. (I didn't get any fraction of a gilt, even though 87p was left "on the table", and I assume that's 'cos it was handled by a dealer who didn't want to faff with fractions, whereas my conventional gilt purchases have been live online, i.e. handled by computers.)

[GeoffF100]

Contract notes break out the accrued interest to make it easier to report tax.

They list accrued interest in addition to the clean-price-based-cost. They don't list the dirty-price-based-cost and say "of which £nnn is accrued interest". But it still seems six of one to me and I don't get what, if any, practical difference it makes....

I have made two purchases of TG36 in recent months. I spoke to the dealer the first time, and have gave me a price for the accrued interest. Here is the relevant part of iWeb's contract note:

Order Quantity: 36063
Deal Date: 07 June 2023
Following your instruction, we have bought on your behalf
Stock Name: UNITED KINGDOMGOVERNMENT OF IDX/LKD SNR BDS 22/11/2036 GBP1000
Quantity: 36063
Price: 133.088787 GBP
Consideration: 47995.81 GBP
Brokerage Charges
Commission: 5.00 GBP
Total Charges: 5.00 GBP
Accrued Interest: 3.13 GBP
Net Total Due: 48,003.94 GBP

Tradeweb gives the accrued interest for that day as 0.008184.

36063 * 0.0008184 / 100 = 2.95

That does not quite tally, but is probably near enough. I was blocked from speaking to a dealer the second time and submitted the second purchase as a "negotiated deal" online. The contract note did not include the accrued interest. The above calculation suggests that it was about £10.

[mc2fool]

P.S. Don't go mad, I'm not convinced this is a great time to buy gilts, I think UK shares are going to be a wonderful investment from here... The time to buy gilts was 10-15 years ago IMHO. [Risking looking stupid...]

Maybe so, but you are/have been, by all accounts, a very well experienced and successful gilt trader, whereas this thread has been (certainly from me) focused on buying and holding gilts to maturity.

As such it's looking at gilts as "safe money" alternatives to bank/b.soc. savings accounts and the like, rather than as trading investments, and in that respect, with the tax free capital gains and very low coupon gilts going for below par for the first time in many yonks, it's a good time to look at them, IMHO.

[GoSeigen]

Contract notes break out the accrued interest to make it easier to report tax.

They list accrued interest in addition to the clean-price-based-cost. They don't list the dirty-price-based-cost and say "of which £nnn is accrued interest". But it still seems six of one to me and I don't get what, if any, practical difference it makes....

Because (among other reasons) people get this notion in their heads that accrued interest is "charged", like a commission. It is not. The total price of the gilt is what is exchanged by buyer and seller. The accrued is a purely notional value.

If people are able to see that while at the same time using language which implies the opposite I'm really not forcing them to change. I'm just offering an alternative framing for readers of this thread which to my mind may make bonds easier to understand.

It's similar to the popular notion that markets "sell off" (or "investors are selling") which people attribute to "supply and demand" when in fact there is equal buying and selling and supply and demand are unquantifiable and have nothing to do with pricing of the market. If people want to talk in those terms I guess it's up to them, but personally I can make far more sense of the market by describing investors' behaviour as adjusting their valuation of securities and trading willingly (whether buyer or seller) at those valuations.

YMMV.


GS

[mc2fool]

I was blocked from speaking to a dealer the second time and submitted the second purchase as a "negotiated deal" online. The contract note did not include the accrued interest. The above calculation suggests that it was about £10.

Are you sure you were looking at the PDF contract note and not the web page based trade confirmation?

I put in my recent TR24 order to IWeb online as a negotiated deal and the web page based trade confirmation I got and that was available via Dealing History didn't show the accrued interest -- although I could suss what it was 'cos the transaction + dealing fee didn't add up to the total.

However, IWeb replaces the web page based trade confirmations with PDFs overnight, and that includes the accrued interest (which was exactly the shortfall in the web page based confirmation).

BTW, why were you blocked from speaking to a dealer?

[monabri]

What happens at maturity...does the holding remain in your account awaiting 'sale' or does a chunk of money arrive in your account with a transaction being carried out automatically?

[GeoffF100]

I was blocked from speaking to a dealer the second time and submitted the second purchase as a "negotiated deal" online. The contract note did not include the accrued interest. The above calculation suggests that it was about £10.

Are you sure you were looking at the PDF contract note and not the web page based trade confirmation?

I put in my recent TR24 order to IWeb online as a negotiated deal and the web page based trade confirmation I got and that was available via Dealing History didn't show the accrued interest -- although I could suss what it was 'cos the transaction + dealing fee didn't add up to the total.

However, IWeb replaces the web page based trade confirmations with PDFs overnight, and that includes the accrued interest (which was exactly the shortfall in the web page based confirmation).

BTW, why were you blocked from speaking to a dealer?

Yes, it is the pdf. As I said, the second purchase did not include the accrued interest. That appears to have been luck of the draw in the past. I expect it depended on whether or not the dealer entered the value.

I believe that you have crunched through the cash flows for an IL gilt on a spreadsheet, and you probably have a deeper understanding than me as a result. Does my accrued interest calculation look right to you?

In the past, and for the first recent purchase, I tried to trade online and got a message telling me to ring customer services, who put me through to a dealer.

For my last purchase, I did not bother trying online and rang customer services. They asked me what error message I had got. I did not have an answer for that. They said it was cheaper to trade online. I said that I was iWeb. Um.. They asked what error message I got again. I had the web page open and entered the trade. I got a message telling me that the trade could be done as a negotiated order, so I agreed to proceed with that.

[GeoffF100]

What happens at maturity...does the holding remain in your account awaiting 'sale' or does a chunk of money arrive in your account with a transaction being carried out automatically?

There is no sale. The money arrives in your account automatically ...well after a delay perhaps.

[gpadsa]

TG36
Order Quantity: 36063
Deal Date: 07 June 2023
Accrued Interest: 3.13 GBP

Tradeweb gives the accrued interest for that day as 0.008184.
36063 * 0.0008184 / 100 = 2.95

I think it is a T+1 thing, using tradeweb accrued number a day later the calculation is:
36063 * 0.00867 / 100 = 3.13

gpadsa

[GeoffF100]

[I put in my recent TR24 order to IWeb online as a negotiated deal and the web page based trade confirmation I got and that was available via Dealing History didn't show the accrued interest -- although I could suss what it was 'cos the transaction + dealing fee didn't add up to the total.

Thank you for pointing that out. The same is true for my second recent purchase. Again my accrued interest calculation is slightly short. That does not matter now I can get the value from the contract note.