Higher yields revive gilts appeal says Greetham

The case for gilts in a multi-asset portfolio has strengthened considerably in recent years, with higher yields now the norm. The starting yield is now around 4.7%, a far cry from the pandemic-era lows.

Ten-year gilt yields touched a pandemic low of 0.1% in August 2020. At the time, gilts were described as “return-free risk” rather than the traditional “risk-free return” that sovereign bonds are supposed to offer. A buyer back then would have needed consumer prices to deflate over a decade to make a positive real return — something that was never likely.

Related: Investing lessons from Jordans

The post-Covid recovery turned out to be more inflationary than expected, and the Russia-Ukraine war drove oil prices higher. Yields hit 4.5% during the September 2022 mini-budget under Liz Truss. Long-dated index-linked gilts lost 70% of their value in two years, and even more in real terms.

Today the starting yield is reassuringly high at about 4.7%. In the oil crisis of 2026, yields never exceeded 5.2%, so current levels are within a historically reasonable range. Government bonds are once again providing ballast in a portfolio and a hedge against deflationary shocks.

At the start of 2026, the narrative around bond markets was straightforward: growth was slowing, inflation pressures were easing, and central banks were shifting toward a more accommodative stance. That changed after the US and Israel attacked Iran.

Higher energy prices started to feed through into inflation, and policy expectations adjusted accordingly. All government bond markets reacted to developments in the Middle East. Coming into the year, the Federal Reserve, Bank of England and European Central Bank had all been expected to cut rates by year-end. Now they are expected to hike, with US expectations moving most sharply as new Fed chair Kevin Warsh vowed to “restore price stability.”

Over most of June, optimism grew that the US and Iran were moving toward a peace deal that would reopen the Strait of Hormuz, but it always looked like fragile peace. Equity markets advanced and commodity prices reversed some of their gains, but bond markets were slower to re-price the outlook. The number of tankers passing through the Strait remained very low while oil supplies depleted.

As the conflict intensified over recent weeks, flows through the Strait have once again come to a standstill. Crude oil contracts for December delivery are trading 35% above levels seen at the start of the year. Raised energy prices place a floor under inflation and, by extension, bond yields, challenging the notion of a smooth return to a rate-cutting cycle.

With such dramatic swings in oil prices impacting government bonds globally, it would be wrong to build a gilt market narrative solely around domestic politics. But that does not mean politics are irrelevant. The markets seem to like the fact that Andy Burnham will replace Keir Starmer as prime minister next week without the need for additional spending commitments in a protracted Labour leadership contest.

If Burnham can add some urgency to EU-UK summits to reduce trading barriers, fiscal sustainability could actually improve. Fiscal credibility will be key, and investors will take some cheer from his commitment to ‘current fiscal rules’. Burnham is making a strong ‘levelling up’ pitch, presuma