Valuing Bonds (Part II)

 Historical Examples

Currently bond yields are fairly low. In part I the best investment we found only had an expected yield of less than 4% a year. So right now investing in the bond market for income isn't going to yield any great investment returns (ignoring possible changes to bond prices).

 

The above chart shows the net yield for the FTSE All Share Gilt (UK government bonds) fund for the last 5 years. As you can see at present the yields are pretty low historically. 5%+ yields have been possible in mid 2007 and again in mid 2008.

Below is the net yield chart for the UK corporate bond fund:

As you can see very healthy returns were achievable in 2008-2009. Let's say that you decided to invest in this bond when the expected return went above 8% in October 2008, deciding to sell the investment if the expected yield dropped below 5% (assuming at less than 5% expected return you could find more profitable investment situations). How would your investment have faired? On the 3rd of October 2008 the expected yield went above 8% using our valuation method. On that day you could buy the bond for 110.46. The bond's expected net return dropped below 5% on the 24th of March 2010 with a valuation of 117.52. This gives the following for this investment:

Action	Date	Value
Purchase bond fund	3/10/2008	-110.46
Distribution	17/11/2008	1.82
Distribution	16/2/2009	1.91
Distribution	18/5/2009	1.84
Distribution	17/8/2009	1.78
Distribution	16/11/2009	1.69
Distribution	15/2/2010	1.66
Fund sold	24/3/2010	117.52

The above example gives a total return of 16.1% profit in under 18 months or an IRR (internal rate of return) of 10.9% annually. Not a bad investment overall especially considering the market conditions at the time and above our expected return of 8% annually.