How bad will the UK's loss of its AAA rating be for gilts? The short answer is that we don't know, but what we can reasonably assume is that gilts will be a bad investment over the next decade, maybe much longer.
Every year there are two very long reports on investment returns, one from Credit Suisse, the other from Barclays, that enable investors to set current events in the context of a run of data going back more than a century, not just for the UK but for other major markets. Last year was an exceptional one in that it saw the lowest long-term gilt yields ever, yup ever. Ten year gilts went below 1.5 per cent and ahead of the downgrade had already risen to 2.1 per cent.
But in investment terms one year is one year. Anyone planning a pension should be thinking in terms of 20 years at least, maybe 40, and so the broad decisions have to be taken with a very long perspective. Take the great issue of the moment, the rotation away from bonds into equities. Over 50 or 100 years equities do better than bonds but over 10 years bonds often do better.
I have been looking at performance as charted in the Credit Suisse paper. As far as the UK is concerned, over the past 112 years equities have produced a real (allowing for inflation) return of 5.2 per cent, bonds 1.5 per cent, and treasury bills 0.9 per cent. For the US, it was 6.3 per cent, 2.0 per cent and 0.9 per cent. The worst of the major markets was Germany which produced 3.1 per cent, minus 1.7 per cent and minus 2.4 per cent. Japan had a similar pattern, which must carry some message about starting wars.
But if you look at the 2000-2012 period in nearly all markets you would have been better in bonds than equities, while in a few (Italy, Japan) you would have been better in bonds in the 1990-2000 decade too.
Three messages. First, on a long view the rotation from equities to gilts must make sense. Second, don't expect more than a real return of 5 per cent on equities. And third, AAA or no AAA, gilts look a seriously bad buy for the next decade.