Five tips for bond investors

Bond investors have been hit by increased volatility in the sector since May when the US Federal Reserve announced plans to reduce its bond purchases.

Since then investment grade bonds have been overshadowed by interest rate movements, currency fluctuations and the eroding effect of inflation. Also read: Inflation linkers offer scant protection Harris Gorre, head of financial products at Investec Bank, says: "Creating an accurate picture and analysing the correlation of credit, currency, interest rate and inflation risks has never been a perfect science, and so there are many investors who simply choose to hold large cash allocations or stick to equities." Also read: Investors show strong appetite for Treasury inflation bonds He has five simple guidelines for investors considering the bond market: 1. Credit risk remains the single greatest factor when investing in bonds. If you aren't comfortable with the credit risk of a bond, compared to the return it pays, you shouldn't be holding it. 2. Income pays the bills. No matter what markets do, most investors seem to have a magic 5 per cent return in mind. But you need to bear in mind that this is an average - not every bond has to hit this return and a traditional balanced portfolio across equity and bonds should deliver this without having to assume too much risk. Also read: Curb your expectations, warns Pimco's El-Erian 3. Interest rates will go up. Bond prices will come down. There are ways to manage this risk - look for floating rate notes with decent credit spreads. There are simple and effective investments in the market that can deliver this in liquid, low-cost and transparent form. 4. Inflation will persist. Inflation is stubbornly high in the UK and will probably remain so. The UK government started issuing inflation-linked bonds in the 1980s and Retail Price Index-linked bonds continue to offer investors a real and direct hedge against inflation. They are difficult to source and often available only in institutional size, but there are some innovative bonds available to investors of all sizes, built on fixed-rate bonds but offering inflation-linked returns, which deliver real income and capital protection. Also read: Bond uses tax break 5. Currencies are volatile. Avoid taking unnecessary currency risk when investing in bonds. Remember, for most investors this is the safe part of your portfolio. Also read: Nigeria raises $1bn in international bond sale