Are Bonds the Safest Way to Protect Your Wealth?

[00:00:00]There's too much emotion behind equity prices. Far too much. I'm fairly confident in saying there's a 0% chance that you would lose money holding a guilt. [music] If the money you put in, you held it to maturity. No matter what happens in the markets, if you had bought a 20-year [music] guilt in 2006, and you'd held it all through that period, you would still get your money [music] back and you'd know the coupon that you had got every single year for those 20 years. And all those things would have made absolutely no difference to you whatsoever. Every investor should have them as part of [music] their portfolio irrespective of one's stage of life. Is that like a percentage or [laughter] no five?

[00:00:37]>> There's no one number. If I say off the top of my head, it could be anything from 5 to 25%. I'm more into the Warren Buffett school of investing whereby [music] you just invest over the long term and don't worry about daily fluctuations or quarterly or weekly fluctuations.

[00:00:52]>> [music] >> Welcome to Investing Unlocked, making money make sense. With me, Georgie Frost, and me, Simon Lambert. And joining us today is Professor Morad Chowry, one of the UK's most respected voices on fixed income and banking. He's worked at the London Stock Exchange, JP Morgan, and the Royal Bank of Scotland, led treasury teams across the city, and quite literally wrote the book on bond and guilt markets. But first, Simon, when I think of bonds, I think of that famous quote by James Carville, who was a political strategist, I believe, who worked on Bill Clinton's 1992 campaign.

[00:01:29]And he said, I won't do the American accent cuz I'll butcher it. I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a 400 baseball hitter, which I assume is a good thing. But now I want to come back as the bond market.

[00:01:47]You can intimidate everybody.

[00:01:50]What on earth are these things that we're talking about that people call the uneaten boring vegetables on a plate yet you want to come back as the bond market? Well, a bond is effectively fairly simple. It's a an organization, a company for example, or a government >> and it issues a bond and it says if you lend me some money, I'll pay you an interest rate return over a set period of time. and then at the end of it, I'll give you your money back.

[00:02:16]>> And it it's considered to be less interesting than the stock market. Most investors veer largely towards the stock market.

[00:02:23]>> So you don't it's a difference between owning a piece of it or just having a bit of >> Yeah. You're lending some money and then you get your money back, right?

[00:02:30]>> But those bonds can be traded in the middle. And that's where the pushing around comes in. And I think that quote has never been more accurate than in the period since the financial crisis when the boring bit of the bond market, the government bonds have been pushing entire economies around. They've been pushing the bond market has been pushing the UK economy around since the financial crisis. In a sense, it it also pushes the US economy around a little bit less. It's pushed around European economies, Greece famously. It's pushed around the whole the EU and the ECB. You got to explain this in more detail cuz actually if you are someone listening to the news right now, you'll be talking about guilt yields and bond markets. And this is something that is becoming actually more common to listen to, you know, in in the general news. But actually thinking about what it really is and how it's able to have that impact takes a little bit of understanding, right?

[00:03:25]>> Yes, it does. And I think it would probably be a better idea if I let the expert explain this in more detail. But what I would say is what you need to remember in on the on the government bond scenario is that there are many countries that are living beyond their means. They are spending more money than they get in and they need to fill the gap and they fill the gap by borrowing money. And when they go to the market and they need to borrow new money, um the bond market investors can decide at what rate of return they are willing to lend money to that country. And if they feel that that country's economy doesn't look so great, >> that it's got too much debt or it isn't growing or it looks like a bit of a problem or they think it's just in a bit of a tight spot, then they can demand a higher interest rate return on those bonds and that then pushes up um you know, the amount of money it's going to cost you to borrow. And if you're a company, that is one thing. And companies suffer this all the time.

[00:04:21]Companies go to markets, borrow money all the time. If you are an entire economy, it is another thing.

[00:04:26]>> Yeah. Like a country and they kind of need some money. It's funny though, isn't it? The way that you describe that, Morad, I'm going to get you in because you are the expert. Simon, I was just testing you there in front of the expert. How did he do by the way?

[00:04:36]>> He did really well. Excellent.

[00:04:37]Absolutely. He did very well. Yes.

[00:04:39]>> Yes. You know, I haven't just brought him here for no reason. He's fairly good, isn't he? Um, but it's funny, isn't it? Because there is this the bond market that's got this almighty power to bring down governments and all that sort of thing. And yet, when I showed my my little investing portfolio to someone the other day, I had some bonds in there and they were like, "It's a bit defensive. It's a bit boring, isn't it?

[00:05:01]These boring things that can change governments. What do you mean?"

[00:05:05]>> Uh, I suspect that the chap who uh referred to your portfolio as was defensive. what what he or she meant was you won't double your money in in in a year, something like that. But of course, people who think they'd like to double their money in a year forget that you could lose your money in a year by the same token because volatility goes down as well as up.

[00:05:24]>> So they are defensive generally, but then of course it depends what what who the borrower is. You you use the expression the bond market. The market is basically those who lend money to those who want to borrow money. The bond itself is the instrument. It's the IOU.

[00:05:39]You referred to guilts. that's bonds issued by the UK government which have a high credit rating because the UK government in the history that guilts have been around which is from the 17th century um that has never defaulted on it's always repaid its debt so they're seen as very risk-f free so that's the defensive element that your your your financial adviser or your your colleague was talking about I want to we will get into the individuals and the portfolios and where why you might use bonds in your portfolio but I do want to talk about the sort of wider picture because you were a guilt market maker. Yes.

[00:06:16]>> In the city, which sounds really exciting. Was it?

[00:06:20]>> Well, [laughter] well, yes, absolutely.

[00:06:21]But but excitement is relative, isn't it? I mean, someone who someone who doesn't work in the city of London or in finance might think any job there is boring, whereas someone who works in the city of London might think a guilt hedge market maker is exciting. And in that respect, absolutely it was. We're the banks that would make buy and buy and sell prices, two-way prices in guilts to anyone else who wants to to buy them. So we so we make a continuous market and so they are designated gems, guilt hedge market makers by the Bank of England, those banks that offer that service.

[00:06:50]>> How would that activity that you did touch my life? [laughter] >> What a great question. Well, collectively the the the ability to buy and sell guilts, in other words, make them liquid. you can buy and sell them at any time is an attraction for a market. So what the guiltage market makers do is provide that liquidity to the market such that the government can issue bonds at any time and they do it under a scheduled auction so you know when they're going to issue bonds but also it enables people who might want to buy them to know that they can sell them at any time. How does that as a whole impact you? Well, the activities in the market, the desire to buy and sell, which impacts, which Simon referred to, the the yield, the interest rate that's paid on the bond, that will impact you ultimately because it sets the level of borrowing rates. So, the Bank of England sets base rates in the economy and all other rates are essentially built up from that. Um, guilts as I mentioned are risk-free, well, credit risk- free. So there's different interest rates for depending on the maturity, how long the bond life is and those interest rates set are part of the overall market. So if you are borrowing money, if you use a credit card, you have a personal loan, you have a car loan, you have a mortgage, the interest >> you affected my mortgage basically. Is [laughter] that what you're saying? If I had one at the well to an extent, yes, but it's more the bank of England's base rate setting that in influences um mortgage rates than say what the guilt yields are. They are connected. So if guilt yields were rising, you would see mortgage rates rise. Absolutely. We saw uh you know the the the episode in September 22 uh under the Liz Truss administration. What happened there when guilt yields rose up? If rates are seen as to be continuing to rise, then mortgage rates will follow. So yes, they are connected. So how does that impact you? It impacts the rates you'll pay. It also on the other side of the coin impacts the rates that you would receive if you were a depositor. Yeah. So if yields in the market, interest rates in the market are higher as a saver, you like that because you get a higher rate on your deposit. Whereas if you're a borrower, you don't like it because you're paying more in interest. So that's how it impact you personally.

[00:08:55]>> Simon, what happened in 2022? I know we talked about it, we've talked about it a lot subsequently as well, and I know mortgage rates shot up, but what role did bonds play?

[00:09:07]It it was a quite a complicated scenario that also involved pension funds and some of the instruments that they were investing in which created a bit of a vicious circle. But if you if you detach that vicious circle bit that sort of sat on top of what went on at the most basic level, the market lost faith in the government's ability to manage our finances in a way that it previously thought we could be relied on to do. Mhm.

[00:09:41]>> And therefore demanded a higher yield, a higher interest rate return in order to lend us money. So when Liz Trust and Quasieng um had you know what has been referred to as their mini budget, but it wasn't actually a proper budget in any way.

[00:09:58]>> Yeah.

[00:09:58]>> It didn't have also didn't have any costings from the office of budget responsibility.

[00:10:03]In that they identified a genuine problem that the UK economy is not growing enough.

[00:10:11]>> Funnily enough, quite a lot of what was said is very similar to what Rachel Ree and Karma said in the Labor Manifesto.

[00:10:18]The economy is not growing enough.

[00:10:20]>> And then they decided that what we needed to do was we needed to cut taxes in order to fund that. At the same time as we were also planning on handing out a load of money to people to help with the uh energy bill spike as well. and they cut the the basic rate of tax. Uh they also cut the uh additional rate of tax. Um and and arguably they overshadowed the cut to the basic rate of tax with the cut to the additional rate of tax which might have potentially been one of their problems and they managed the communication of it very badly and it wasn't costed by the OBR and then some of the other things they did in there as well. You add all of those things together and the market just went well do you know what I can't remember what the exact numbers were but like previously we would have been happy to lend to you at 4%.

[00:11:04]>> Yeah.

[00:11:04]>> Now we want four and a half.

[00:11:06]>> The rise was more than 100 basis points.

[00:11:07]So to use your example it been four to five.

[00:11:10]>> Yeah. So that's a big big big jump. And when that happens then everybody else goes oh hang on a minute.

[00:11:16]>> Mhm.

[00:11:16]>> Well maybe maybe five's too low. You know you you get this kind of market panic situation and then you have the stuff that went on top of it. But it was a it was a good example of people losing faith in a government's ability to manage the country's finances and the thought that we would then need to come back and borrow a lot more money in future in order to fund this because what was effectively there was unfunded and and they didn't like that and they demanded a higher rate of return. On a much smaller scale with respect to 2022 there's a former fund manager from PIMCO Muhammad AR and he referred to it as an idiot premium. So, so that's he meant that as you said Simon that the the investor class investors would be from the private sector pension funds insurance companies other banks other governments other central banks so they collectively viewed the loss of confidence in the ability of the government and the chancellor to manage their finances meant that they required a higher yield and that's that resulted in a big guilt selloff which is which the bank of England has to step in to to support that's obviously not a good thing at all so and of course it led to the downfall of the government But that's exactly right. They demanded a higher yield because they were unconvinced of the government's ability to manage finances. And and these are the moments when boring bonds become quite exciting, [laughter] but also where there's an opportunity to make money, isn't there? Because if you if you buy a bond and hold it to maturity, you know exactly what you're going to get.

[00:12:41]>> But if you buy and sell secondhand, >> Yes. Abs absolutely right. And that's the bit that makes them defensive. They are. And every investor should have them as part of their portfolio irrespective of one's stage of life in in wherever in the life cycle one is precisely for that reason. If they're guilt or other AAA rated securities because if you lend the government £1,000 or X for one year or 5 year or 10 or 50 years you will get back that X pounds. It's AAA rated and so there's no loss of income. But if you are trading buying and selling while the bond is live then yes you can be selling it at a lower price than you bought it at. But that's the same with equities, you know, and I'm not I'm my own personal background is I suppose I'm more conservative investing. I don't believe I'm more into the Warren Buffett school of investing whereby you just invest over the long term and don't worry about daily fluctuations or quarterly or weekly fluctuations and you you just hold for the period. So, but of course, if yields are are volatile, they're going up and down 100 basis points or a percent, they're going up and down by a lot. Yes, of course.

[00:13:40]That's when you can make lots of money or lose lots of money buying and selling bonds, but that requires you to time the market and understand it. And I'm I'm always a bit wary of people who think they can time the market, whether it's equities or bonds. Fund managers, whether they are bond fund managers or equity fund managers who actually beat in stock market indices are quite thin on the ground. They're quite rare. So, timing a market is to me personally a bit of a mug's game. I'd rather just hold the bond and get the money back plus the interest. Uh now that's not saying it should be 100% of everyone's portfolio if you want to equity markets have over a long period of time outperformed bond markets but the reference to guilts being very high performing in 2025. If you look at small shorter time periods sometimes bond markets do outperform equity markets.

[00:14:26]It's interesting you said you think everybody should have bonds as part of their portfolio because we have this view that it's sort of something you have that's less risky and therefore perhaps if you're older you should have them but if you're young 100% equities >> even young people should always have a store of cash that they know will always be there and there is 0% chance of whatever they put in X pounds will still be X after a one for X year or Years because with equities the volatility the price fluctuation is is greater. So even young people should have a part of their savings that they know won't drop in value.

[00:15:05]>> Is that like a percentage or [laughter] >> no five?

[00:15:08]>> There's no one number. See any any decent financial adviser should understand your own particular situation before they give the answer to that question. But if I say off the top of my head it could be anything from 5 to 25% of anyone's portfolio, you know, but then that's a big spread there. as as an old swaps trader I know used to say that price is wide enough to drive a bus through 5 to 25% that's quite a widespread but there should be some percentage because that's the savings that you can rely on to always be there you know we never know what's going to happen next you know in our personal life you know you know what our needs will be financially in the future so we should always have some part of our savings if they're not in a banker deposit that we know will always be there and is still earning a good rate of interest for us >> but you just quickly because you said both spoke about 2022 but wasn't that a time when normally you'd have bonds for if equities drop. But didn't they both just fall?

[00:15:57]>> Yes. Because there's a lot of when when markets crash or have many crashes, everything moves in the same direction.

[00:16:03]They're very quite closely correlated.

[00:16:05]You know, I know there's a sort of flight to quality, but if there's a big crash, you know, then everything goes down. But again, if you were holding guilt during that period in 2022, um the value of your fund uh at the end of the year was probably less. Again, it depends what was exactly in it then at the start of the year. But again, if you're just holding them to maturity, you're not concerned, >> right? Yeah.

[00:16:25]>> You're only concerned if you wanted to sell out of it at the end of 2022 compared to the beginning of 2022.

[00:16:30]>> And is this where there sort of becomes a bit of confusion in the market because a lot of people will invest in bonds through a bond fund.

[00:16:38]>> Yes.

[00:16:38]>> In and where you have a fund an active fund manager trying to trade those bonds and make a profit for you. But then you could also just buy those bonds direct.

[00:16:47]You could buy guilts direct. Absolutely.

[00:16:49]And that's proving to be increasingly popular, isn't it? Why Why do you think it's becoming more popular with ordinary investors?

[00:16:55]>> Well, I I don't want [laughter] I mean, possibly because they're unconvinced about the value that their fund manager is bringing to them, but that you didn't hear. I didn't say that. Um, you know, I it's it's popular because it's easy to do nowadays. Everything's on an app on your mobile phone. You can select a guilt. Any online broker will will buy and you know, the bond for you. You can select a guilt. Let's just say I was happy to lock away some sum of money for five years and I'd buy the five-year guilt. Uh if I wanted to lock some money away so it's available for when my child goes off to university in, you know, in 18 years time, I'd lock them away in an 18 year guilt. That's that's quite sensible, isn't it? Because it'll always be there and in the meantime, it's growing because of the interest acrruel.

[00:17:33]So, if I can do that myself, why pay a fund manager fee? You know, it's it's easy to do. You just need to know the stock that you want to buy. But of course, it's easy to also say, "Well, I'll leave it to someone else because they can pick it." But if they're generating value through buying and selling the bonds, great. Not all of them do that though, [clears throat] you see. And this is where picking your fund manager becomes, you know, an issue to to consider.

[00:17:55]>> How would you do that? So, I mean, can you do it through platforms and buy individual bonds and guilts that way?

[00:18:00]Would you buy an ETF? Like, what?

[00:18:03]>> If you're buying an ETF, again, you're buying a basket of of bonds. And and the the difference between buying an individual bond is you you know say for example they all will have a certain maturity date and say for example you bought one that had a maturity date in four years time. You'll know >> what the yield is on that bond. You know what that bond pays you but you've also got the yield to maturity which because the price of the bond may be more or less than its face value. So, say for example, it's a bond with a low interest rate on it. Um, from back in the day, post financial crisis when bond rates were much lower. Well, you you might say, well, I'm not paying a pound for that because I could buy a new one now and it will pay me 4% interest instead of 2% interest, so I'll pay you less.

[00:18:48]So, it's about the yield to maturity.

[00:18:51]But you you can go and choose that and you can and almost all of the big investment platforms will allow you to buy guilts direct. There is also a chunk of people buying guilts direct because if you buy a guilt the uh the the coupon the interest on it is taxable >> but if you make a capital gain on it it is taxree. You don't get char charged capital gains tax. So they're buying guilts that are paying very very low rates of interest. Yeah, >> because they're at a knockdown price and then they make a profit on that when the when the bond reaches maturity and they get their money back and that profit is taxfree and that's proved to be very popular in recent years. Before we carry on, a quick word from our sponsor, PensionB. If you're listening to this podcast, chances are you care a fair bit about investing and making the most of your money. But here's the thing. You don't have to be a pensioner to care about your pension. In fact, the earlier you pay attention, the more powerful it can be. Your pension is likely to be one of, if not the biggest investments you have. Yet, it's often the one people ignore the longest. That's where Pension B comes in. They're a leading online pension provider focused on helping people build confidence and take real control of their retirement savings at any stage of life. Their app and website make it easy to combine old pension bots, manage contributions flexibly, and see exactly what's happening with your money all in one place. You can also access your pension from age 55 rising to 57 from 2028. If you want to take a more active role in your pension investing, download the PensionV app or visit their website to get started.

[00:20:22]Remember, when investing, your capital is at risk. M you spoke about duration.

[00:20:27]Can you explain a bit more about why long bonds crash harder?

[00:20:34]>> Again, this is only an issue if you are buying and selling the bond before it matures. Yeah.

[00:20:39]>> The so referred to the yield to maturity. A a bond itself, the instrument itself is an IOU. It's a collection of cash flows. So on day one, the lender lends £100 to the borrower and 5 years later, if it's a 5-year bond, the borrower returns £100. During that time, the borrower also pays interest on that £100. Let me illustrate very quickly. What's the present value of £100 at the end of this week?

[00:21:02]>> So today is Wednesday, the end of this week is Friday. That's two days from now. The present value is pretty close to £100. So no matter what happens to interest rates, the present value is unchanged. But what's the present value of 100 pound that you're going to get in 50 years time? [clears throat] That's a lot less. You you wouldn't pay close to, you know, so the present value of £100 in two days is 99.999 whereas the present value of 100 pounds in 50 years time is well it's it's depending on how what rate you use to discount it is a lot less. Now that's why longerdated bonds bonds of greater duration the reason I hesitate is because that's not technically accurate but we can use that term. Um the duration of the bond the longer it is the more sensitive its present value.

[00:21:41]And now when I say present value, I mean it's price. What you'd pay for the you know the 100 pound notion of the bond is price. The greater the present value change for one for a given change in interest rate. And by the way present value is one side of the equation and yield is the other. So the two sides of of an equality and if you hold a very longdated bond and there is a change in market rate say for example the bank of England changes the base rate the present value the price will change by more than if you hold a short dated bond for the same change in rate. That's the sensitivity. But again, if I'm not going to sell the bond between now and 50 years, I don't mind its sensitivity. I don't mind what its present value is tomorrow or next week or next year or next decade because I'll just get my 100 pounds back at the end of 50 years. So, it's only a consideration if you are trading in bonds, it's your interest rate sensitivity. So, if you are trading in bonds, it's a concern for you. If you're not, if you're just holding it to maturity, then it's it doesn't matter.

[00:22:33]Remember, there's no credit risk differential. If I lend money to HM Treasury for uh one year or 50 years, the credit risk is the same. I know I'll get it back at the end of the period.

[00:22:43]>> Simon, what role do bonds play in your portfolio?

[00:22:46]>> Um, almost none.

[00:22:48]>> Um, I'm I'm I'm dis I'm disappointing you, I'm afraid. It's okay. On the other side, you could ask me the same question.

[00:22:55]>> Is almost 100% equities apart from some investment trusts that I hold that then hold some bonds within them. Um, however, I must admit that it is something that over recent years I have considered more.

[00:23:11]>> Why?

[00:23:11]>> Because because they'll actually pay you a decent interest rate >> right now. Whereas compared to, you know, most of my investment life post the financial crisis. I mean, you you had bonds that were paying half a percent. I mean, you had some bonds you were paying to own. You have bonds from [laughter] not from the UK, from other countries. bad old days in the UK during lockdown. Yes. Which is outrageous by the way. Negative interest rates. But that I'm glad we don't see that anymore except in Switzerland.

[00:23:39]>> People were so worried about, you know, their money that they would put it in something that they were guaranteed to lose a little bit on because they knew that that thing would give them the money back. But also because they thought that at some point interest rates might go up in the future. Yeah.

[00:23:52]As well. But the but the the the thing is um I think if you look at and I think this is what has happened with a lot of investors. If you look at where guilt yields have been recently. So if you look at say 4 and a half% you go okay 4 and a.5% return guaranteed every year they're going to pay me that and my money back at the end. That doesn't look too bad. And I think there are a lot of investors out there going you know I'll take that. I'll take that over 10 years.

[00:24:21]I'll take that over 30 years and I'll know that at the moment that 30-year bond has a pretty healthy yield on it.

[00:24:28]If I hold it all the way to maturity, I'll pick up my 4 and a half% for example. They were yielding more than that 5% you know at one point pick up my 5% every year for the next 30 years.

[00:24:36]That is a good return.

[00:24:38]>> Mhm.

[00:24:38]>> Right. And I know that's a solid return there and I can then invest my money in equities or shares on the side you know kind of thing. But also I know that if interest rates come down then potentially the value of that bond is going to go up in terms of its price and I might be able to sell out early and make a profit. And so it's like the two-fold thing of like well I can hold to maturity and I know what I'm going to get or if I can make a quick profit at some point I might just decide to make a quick profit.

[00:25:06]>> I feel like you've you've talked yourself into something here Simon. I feel like this is a moment. Um do you want to get out and buy some bonds? You are a bond fan aren't you? But not all bonds are created equal. [laughter] So how do you discover a good bond?

[00:25:19]>> Yes. Just check it. Just check just check its credit rating. If it's credit rating is AAA like a guilt, then if you are looking for safety, that defensive quality of your portfolio, then that's what you'd buy. If you are looking for bonds uh if you're looking at bonds as investment instruments where there is a capital gain that you're looking for like you would one would might with equity certain equities then lower rated bonds have greater generally speaking have greater price volatility. So uh for example we might look at a subinvestment a bond that's rated below what's called investment grade by the rating agencies.

[00:25:51]So, I mentioned AAA. I might look at say a double B or a B-rated bond uh because I might think the company uh who's issued that bond or the government their prospects are going to improve. So, if they get upgraded, there'll be increase in valuation. So, you said right at the start, you can either buy equities in a company, I mean you can't buy equities in a government, that's true, or a sovereign authority. You can buy equities in a company or you can lend them money, be a creditor. So if you had a a view of a company that you thought its its its uh prospects were going to improve, you can buy its shares or you can buy its bond because if its prospects do improve and it is its credit rating is is in is raised by the credit rating agencies, the price of the bond will increase. So if you are looking for that for your bond investing then you'd probably be more interested in lower rated bonds because the price action on AAA bonds is is rarely as volatile as as it is with lower rated bonds unless you have a special situation like we had in in September 22.

[00:26:46]>> Is there like a book that you can kind of read or like a Google what's the rating on this bond or just go to Moody's like a credit rating agency or will it be there in the literature >> these days an online search it depends who the issuer is. If it's a sovereign authority, you can just go to and euro your search engine, your internet search engine, and it'll tell you what the rating is. If it's a corporate, if it's a if it's a well-known corporate, say a Footsie 100 company, again, an online search will tell you its rating. If it's a lesserk known company, then you might need more specialist literature. You know, the literature, the credit rating reports from the rating agencies aren't available for free. You know, one needs to subscribe to them. So, as far as well, the last time I looked. So, it depends who the issuer is, the borrower of the behind the bond. if you can find out what it rating is. So that will just take research in the same way that you would if you were an equity investor.

[00:27:34]You know, lots of people will hold a Footsie 100 equity because it's Footsie 100. So I don't need to research it that much. But if I'm interested in in another type of company that's less wellknown, I'll need to research its prospects, its financials, in which case, you know, let's leave that to the fund manager to do, right? You ask someone what is his portfolio and he said it's all equities. In fact, whenever I've done my own investing, it's only ever been guilt. So very boring Morad. Um but of course I am invested in the equity market. My pension is with a fund manager. My my stocks ISO is with another fund manager.

[00:28:04]So you know I'm obviously I'm I'm very invested in the equity market. It's just that I'm not the one making the decisions which is just as well because my as my old boss at Hoget Securities used to say equities is not are not a proper market whereas bonds are. So um uh so you know I'm very happy to let a fund manager pick equities because it's not really my area and I'm a bit skeptical about it. It just surprises me because someone with your experience in the city, I'd be like, "Of course you must be doing it yourself. Of course, >> not for equities. No, I could do, but I've see the trouble with equities, there's too much emotion behind them.

[00:28:35]There's just it doesn't matter if you could you could be a foot, you could be an index equity, very well known, long history, or you could be a complete unknown who just had just listed last year.

[00:28:44]>> There's too much emotion behind equity prices. Far too much. You know, in the same way that say crypto asset prices is often driven by emotion. You know, it's it's there's there's very little mathematics behind it. Even though you you can look at a corporate finance textbook and it will tell you how to value it, but you know, there can be a bad news item. You know, you you know, the CEO could stumble getting out of a car. You know, emotion drives equity prices in a way that makes me wary of them. But I recognize that if you look about if you look over a 10, 20, 30 year period, they do outperform debt markets over a long time period. So, it would be foolish not to invest in them. All I'm saying is I prefer given my cynicism about equity markets to let a fund manager do it for me. Right? Of which and for which this fund manager will take their fee from from my investing.

[00:29:28]So you know >> and there are some countries where investing in bonds in in directly in bonds is is much more popular than the UK for example Italy.

[00:29:38]>> Australia and New Zealand. Yes. Italy I believe. And there's been a number of attempts >> to get British investors buying corporate bonds. Um, and there's one going on at the moment again, isn't there? So, do you think we will see potentially an increase in interest from ordinary investors in buying companies bonds?

[00:29:57]>> I'm not sure. I'm not sure we will unless the market itself and the language around it is made less arcane, less opaque. Equities appeals to uh investors such as you and I because of the price action. You know, the people look at the stock price every day. Well, some people do anyway. [laughter] They look at the equity price every day. they they track its movements going up and generally equities are going up with the with the index or going down with the index. It's very highly they're very closely correlated. So equities appeals because they're easy to understand. You buy a share in the company you own you know you are an investor you're a shareholder and the price action is going up the price going up so we like it. So they're very they're in that respect they're easy to understand.

[00:30:33]Bonds are surrounded by debt instruments are surrounded by a lack of well there's a lack of transparency around them. It would be good to have a greater understanding, but the language around it and the accessibility to it needs to be improved, made clearer, so people know exactly what it's about. That's why I made I was going out of my way to say, look, if you're interested in parking a bit of cash that you don't need right now, but you you want 0% chance, zero. I mean, very never say never, right? Very few things have 0%. But I'm fairly confident in saying there's a 0% chance that you would lose money holding a guilt if you held it if you if you the money you put in you held it to maturity no matter what happens in the markets.

[00:31:13]So that's why I'd like to see more understanding because that might then attract more people into it and you can nowadays online on your phone find a stock broker an online stock broker who will who you can select the guilt with.

[00:31:25]So it is easy to do it now, but I fear that the the understanding of the market is just it's not that well known. It's just not that accessible. So that's what's holding people back. That's my surmise. Why is it that people will talk about equities all the time, but they talk less about debt? I think it's because it's it's easy to understand.

[00:31:43]It's been made easy to understand. Um whereas with bonds, we haven't had that.

[00:31:47]>> We're not in that space yet.

[00:31:49]>> Well, you're a amongst all your other things that you do, a financial educator. What do you think could change that?

[00:31:56]>> Just just use simple language and clear explain things in clear terms. You know, cut the number of acronyms, you know, just explain things from first principles, you know, uh that's that's not difficult to do. Banking and finance are not difficult or complex, you know, topics, >> but often they're made to come across as difficult or not transparent because of the language that's used, you know, the way they're spoken about. You say it's not difficult, but when you're talking about debt instruments, when we're talking about the power of bonds earlier of ratings agencies, my mind naturally drifts to 2008, the financial crisis, because most people think it was about bad mortgages, but really, wasn't the real risk buried inside bond structures and debt and and and what is it? CDOS's, MBS's. I mean honestly it's alphabet soup of these acronyms >> and and there's been lots of films about that >> and that is complex and that was that is complex that is complex but it was I also think it's been made complex I agree it's not instantly accessible um but it the industry doesn't help itself by the way it describes it 2008 was uh was actually coming together of a number of factors you know to say that the bank crash arose just because of subprime mortgages or C cos collateralized debt obligations um [laughter] is is >> a quick quiz.

[00:33:18]>> Gosh. Okay. Um just imagine I uh Okay, so I I lend you I lend the two of you money. Excellent. So you guys have issued a bond and I've So I've got two bonds here. One's issued by Georgie and one's issued by Simon. Right. Someone someone else comes to me and says, "See those two bonds here? I'd like to buy them and put them into a legal entity and give you the money for their current value." And then that instrument now the this this is this legal entity will issue bonds the CDO which trades in the market. Right?

[00:33:46]>> Okay. That's the instant answer of a CDO. It's basically bonds of debt that's been issued by two other people now in another legal entity. So you're no longer that doesn't belong to you anymore.

[00:33:54]>> It doesn't cuz I've sold it. You see I've sold it to a legal entity and that legal entity is called a special purpose vehicle >> just to keep [laughter] going. Yeah. It keeps going.

[00:34:02]>> It's now issued a bond of its own which is the CDO. Okay. So the person who's bought the CDO is now linked to debt that you have issued. Okay. Now what if it's just like with subprime mortgages.

[00:34:14]So the subprime mortgage market was a residential and mortgage back security.

[00:34:18]So it's the same as if you got if you are the mortgage borrowers. So you've bought a house. I've lent you money but I'm no longer the person who has got the exposure to you because I've sold it to the SPV which I've explained. Now you guys now default on the mortgage. The person who loses money is the person who bought the CDO in this case the MBS the mortgage back security. That person there is now sitting on a loss because that investor bought this repackaged note. Forgive me the [laughter] CDO or the RMBB the MBS mortgage back security.

[00:34:49]The value of that has dropped because you have defaulted on your mortgage. I'm okay because I lent you for your mortgage and then I sold that debt on.

[00:34:57]So I'm out of the picture. Wasn't the problem as well with that is let's say I am a rubbish borrower and Simon is actually an amazing one is a lot of these were packaged together and you didn't actually know really what was inside. It was very complex and I appreciate we're going down an absolute rabbit hole.

[00:35:11]>> We are. One should have known what was in it if one read the offering circular but lots of investors didn't. Uh I have to have share an idea with you. I've I was involved in a transaction which is like a shorter version of a of an MBS or a CDO and um so we were selling that to investors uh institutional investors other banks you know sophisticated investors and um we the offering circular the legal document that describes the transaction it's a thick document the legal document that describes the transaction in full uh less than 10% of the investors bothered to download that from the website and read it.

[00:35:43]>> Wow. Now the reason they bought it is because it was the equivalent of a AA AAA security for a short term called A1.

[00:35:49]A1 P1. P1 is Moody's. A1 is standard and BS. So that was AAA rated for a short term because it's a sub12-month instrument. So the investor thinks, oh, it's AAA. It's issued by this, you know, well-known investment banks, you know, so I'll buy it, which is fine. I mean, >> I'm pleased to say that no transaction that I've personally been involved in has ever defaulted, but that doesn't mean that's not here or there. Um, so it but the reason I give that anecdote is just to say when you said we should know what's in it, shouldn't we? But if you don't bother to read the offering circular, you won't really know the detail. You'll take the credit rating.

[00:36:18]>> But we trust we trust we trust the banks. We trust >> Yes. But there's no reason not to necessarily tr not trust the bank or the rating agency, but the performance of the borrower ultimately is the performance of the borrower. you know, I lend you money because I've run my slide over your of my slide rule over your balance sheet and looked at your financials. Yeah, your your investment grade, I'll lend you the money. One year or two years or five years later, you default. That doesn't make me a crook or not trustworthy. It means I've just I've I've wrongly assessed the credit risk that I took on. Okay. So, but to get back to your original point, there were lots of factors that led to the crash.

[00:36:56]Um, one of which was the the repackaging of lower grade debt which later defaulted and and and actually you know Mor made the point that actually some of this stuff is really simple. Now what he's just explained is really really complicated. [laughter] That's true. Okay. Absolutely. I agree it is but behind this lies two very simple things. Okay. which investors, institutional investors, huge institutional investors in these things did not properly um you know look at.

[00:37:28]One of which was the idea that if you took the mortgages of lots of people with bad credit and then put them together, they would then be safe, which you know is not necessarily true.

[00:37:40]Yes.

[00:37:40]>> The other the other problem was that there was a belief that house prices couldn't fall across the whole of America at the same time.

[00:37:49]>> Now that sounds mad to people from the UK >> where the property market you know doesn't always move as one but you know London catches a chill eventually the rest of the country does and so on and it you know moves up and down. But in America, there was this belief that all of these individual, you know, cities um states, their property markets couldn't all fall at the same time and that if you took uh lots of people with bad credit and put them all together, it would make them safe. And those two things were fundamentally untrue.

[00:38:16]>> Mhm. So, I've I've been involved in some very complex transactions.

[00:38:21]I would love to see an unwinding of all the complexity in finance. It's unnecessary. It's not needed. uh you know there's no shortage of textbooks academic textbooks you know in the in university libraries on exotic options on ex exotic derivatives I would suggest um 99% of all the requirements of banks and corporates can be dealt with with vanilla derivatives you don't need all this complexity you know there was the C co there was a co squared believe it or not I came across a co cubed I don't even want to go down that route I'm I'm I'm losing the will to live here because we don't need this complexity it's unnecessary you know And the >> why did we have it then?

[00:38:58]>> Ways to create money greed.

[00:39:01]>> You know there's um where there's an information asymmetry between the end investor and the person who's selling it. There's asymmetry between the inflation.

[00:39:10]>> The person who's selling it will make more money. Their margin will be more.

[00:39:13]Why do we have it? If I can somehow convince someone that this exotic derivative is better for them than the vanilla derivative, my margin will be greater. So greed does factor into it.

[00:39:23]Absolutely. Uh it's and I'm you know to see the bad practice and the bank crashes that led up to 2008 and subsequently as well with all this misselling and all the fines. It's it's quite terrible. It's a it's it's a great dismay to see. It's unnecessary. We don't need it. And uh I've worked on as complex a transaction as anyone in banking and finance and the market the industry the world does not need them.

[00:39:44]Now someone's going to give me a really hard time saying okay but if you're in the corporate treasury of BP or Boeing or Seammens these large multinationals we do need complexity. I would I I could still make a case why you don't you know you don't need it. It doesn't benefit it doesn't benefit the economy as a whole.

[00:39:58]We can handle most financial requirements and hedging requirements by corporates and countries through vanilla products.

[00:40:05]>> Finally, what is the one thing that you wish every retail investor knew about bonds and investing generally?

[00:40:12]Well, I I wish they knew that they were they were simple instruments at the core and that they are always worth having in one's portfolio whether one is 20 or or 90 or anything in between because if they are AAA rated and they are a sovereign authority that has a 100% track record like the UK sovereign authority, you know your money is safe.

[00:40:33]You're getting the coupon, the interest rate that Simon referred to and today, you know, with yields up at 5% that's not bad. uh and you know if you hold it to maturity you won't lose it so I can see no downside to any portfolio if there are bonds in it guilts or AAA rated securities uh which are held to maturity and the maturity profile is is your call you can you can buy a very shortdated guilt or you can buy a longdated guilt and you'll get your money back >> finally the£1,000 move I'm going to give you I'm not going to give you £1,000 let's pretend I'm going to give you £1,000 uh what do you do with it. Where do you put it right now?

[00:41:11]>> Absolutely. I'd just stick it in the one-year guilt and just roll it over every year.

[00:41:15]>> There we go. Simple.

[00:41:16]>> Yeah.

[00:41:16]>> Simon says I >> I think that what's really interesting is that Morad talked about we talked about the financial crisis. We talked about the crazy complicated stuff that went on.

[00:41:28]Mhm.

[00:41:29]>> But the point that he made repeatedly and at the start is that is stands up is that if you had bought a 20-year guilt in 2006 all and you'd held it all through that period through the the madness of the financial crisis blowing up um through the austerity years through the COVID lockdown um through the cost of living spike all that kind of stuff you would still get your money back.

[00:41:58]>> Mhm.

[00:41:59]>> And you'd know the coupon that you had got every single year for those 20 years. And all those things would have made absolutely no difference to you whatsoever if you bought that bond and held it to maturity.

[00:42:10]>> That's a great way to describe it.

[00:42:11]>> Rushing out to buy bonds. [laughter] >> I love that. That's a great way to explain it. Well done. I like that.

[00:42:17]>> Mora, thank you so much. My pleasure.

[00:42:19]Thanks for the invitation.

[00:42:19]>> Thank you. And thank you so much for joining us. If you want to get in touch with us, you can find us on social or you can email us. Remember to hit subscribe so you don't miss an episode and make sure to tell your friends who don't know their CDOS's from their IPOs about us as well. Before you go, just a quick reminder that everything you've heard on this podcast is for information and education only. It's not personal financial advice and shouldn't be taken as a recommendation to buy or sell any investment. Investing involves risk. The value of investments can go up as well as down, and you may get back less than what you put in. If you're unsure whether something is right for you, it's always best to speak to a regulated financial adviser. If you enjoy Investing Unlocked, especially our retirement episode, then I think you'll enjoy this from our sponsor Pension B, the Pension Confident podcast hosted by Philip Alam alongside a panel of financial experts. It's aimed at those who want to understand pensions and personal finance in a bit more depth, but without the jargon. They cover topics like ISIS, mortgages, the bank of mom and dad, as well as how to become a pension millionaire, and the cost of divorce. There are new episodes every month, plus bonus content in between.

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