Yield Comparisons

The yield on short-dated stocks - those that are due to mature within five years - does tend to reflect the current levels of interest in the short-term money market (itself partly determined by short-term expectations of inflation rate). But the yield on the longer-dated stocks follows more the anticipated long-term average interest rate and long-term expected inflation rate.

Buying and selling

Unlike money-deposit investments, gilt-edged stocks can be bought and sold on the market, daily prices being quoted on the Stock Exchange. Indeed most personal holders of government stock are not the original subscribers but have bought their holdings on the market.

Price changes

The price of a government stock can rise and fall, reflecting falls and rises respectively in the general level of interest rates. For instance, if a long-dated 15% stock were to be issued at par during a period when 15% is the going rate for bank deposits, the issue would probably be fully subscribed, since most people will reckon that rates will go down rather than up and that over the long term the average market interest rate will be a lot lower than 15%.

Now, when interest rates fall, say to 10%, that particular stock becomes very attractive from an investor's point of view, since it continues to pay a fixed £15 of interest a year per £100 of nominal capital. Demand for the stock on the market will immediately tend to drive up its price to around £150, for at that level a holder will get a gross running yield of:

15 x 100/150 = 10%.

In practice the price will not reach 150, for as soon as a stock price exceeds par, the holder at redemption will make a capital loss. This loss will have to be discounted over the years in the price.

New Issues

Issues are being made of new stock all the time, partly to finance the continually increasing need of the government to borrow to finance its spending, and partly to take the place of stocks maturing and being repaid. A subscriber for a new issue must look at a fourth term - the amount payable on issue. This need not be at par (£100 cash for £100 of stock); it could be 'at a premium' (exceptional) or 'at a discount'. For example, a new issue could be made in 2001 of 121/2 % Treasury Stock 1996 'at 90'. That means that a subscriber will need to invest only £90 in cash to get £100 nominal of the stock,... see: New Issues

Personal And Business Finance 2018

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