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The bond funds that protect you from rising interest rates

There are various risks facing fixed income investors at the moment, but the likelihood of historically low interest rates rising in the foreseeable future is one of the biggest.

Improving economic data led by a wholesale recovery in the US has led many experts to predict global interest rates will be hiked as early as next year, which is bad news for many quarters of the fixed interest market.

When investors can get more bang for their buck in a regular savings account, the relative attractiveness of many bond securities automatically diminishes, thus pushing yields higher and prices lower.

Longer-duration bonds, which are more susceptible to a rise in interest rates, look particularly vulnerable and have already seen a big sell-off this year in light of rumours that rates could be increased earlier than expected. In May and June, US long-dated Tips fell around 25 per cent, for example.

For those investors who want to retain their fixed interest exposure, one way to protect against this very real threat is to hold a short-duration bond fund, which is less exposed to interest rate movements.

Short-duration bonds either have a shorter maturity or pay out a greater proportion of their total return prior to the end-date, meaning that the likelihood of them being affected by a hike is significantly lower.

There are a limited number of specific short-duration bond funds available to investors, but the growing demand for them has led to a number of high-profile launches in recent months.

Just today, Royal London announced the launch of three vehicles: Royal London Short Duration Gilt, Royal London Short Duration Credit and Royal London Short Duration Global Index Linked, which have received regulatory approval and will be available from 7 October this year.

These funds join Royal London Duration Hedged Credit and Royal London Short Duration Global High Yield, which were launched in September 2012 and February 2013, respectively.

The Royal London Short Duration Gilt fund will be managed by Craig Inches. who already runs the Royal London UK Government Bond portfolio. Duration will be actively managed to exploit movements in short-dated yields, while the fund will also have the flexibility to invest tactically in assets such as index-linked government bonds, corporate bonds, or non-UK government bonds.

The Royal London Short Duration Global Index Linked fund will be managed by George Henderson. The fund will target the shorter end of the maturity spectrum, aiming to deliver inflation-linked returns with limited interest rate risk. Henderson already runs the Royal London Global Index Linked portfolio.

Finally, the Royal London Short Duration Credit fund will be managed by Paola Binns . who currently runs Royal London Duration Hedged Credit. This new fund will target shorter-dated bonds of up to 10 years maturity – an area of the sterling investment grade credit market that Royal London believes offers particularly good value.

Inches, Henderson and Binns are all ahead of their peer group composite over a three-year period. Inches is the only one of these with both a five- and 10-year track record – he is ahead of his peers over both time frames.

Performance of managers vs peers