New index strives to make investors bite at bonds

The future looks clearer, if not necessarily brighter, for bond investors following the Irish Stock Exchange's announcement that it is to launch a new index tracking the performance of Irish Government bonds at the end of the month.

Bonds, be they issued by governments or large corporates, often form at least a small part of any wisely diversified investment portfolio thanks to their trick of reducing volatility and providing a steady income stream.

Risk-shy investors in particular will be attracted to the beauty of bonds, which are essentially loans that can be traded and fluctuate in price from the date of issue to maturity.

A bond is sometimes described as an IOU from the issuer, with interest paid on redemption.

The Irish Stock Exchange's chief executive, Tom Healy, believes the new information provided by a total of six new bond indices will entice more investors, both private and institutional, to Government bonds.

"We believe that the ability to track the performance of the bond market will make Irish Government bonds even more attractive to investors," says Healy.

Although a handful of other indices have tracked some Government bonds before now, the ISEQ All Bond Index is the first official index to cover all Irish Government bonds, which are traditionally purchased in multiples of €100.

According to Mark Scully of the Irish Stock Exchange, it has worked closely with the National Treasury Management Agency (NTMA) to come up with an index that is suitable and reflects what is going on.

"This is being tailor-made to suit the Irish Government bond market," says Scully.

The ISEQ All Bond Index and a series of five sub-indices that divide into groups depending on their investment terms will all be backdated to March 2003.

Daily performance values will be calculated on each business day at 4.30pm, starting from August 29th, and published in newspapers.

Figures showing how the bond values have fluctuated since March 2003 have yet to be published, but the index was set at 1,000 in June 2004 and has performed well since then, according to Scully.

"The increase in the 10-year long bonds is well above what is happening in the interest rate market and even in some of the equity markets," he says.

The values for the five-year bonds have also indicated that there are good returns available, he adds. However the timing of the launch of the indices is far from perfect.

Even with the clarity provided by the new indices, Irish investors probably won't all rush to place substantial portions of their money into bonds.

"In general, bonds are not overly attractive as an investment at the moment as they are seen to have limited upside potential in a low interest rate environment," says Maeve Corr, director of Deloitte Pensions and Investments.

The risk posed by bonds is that investors might miss out on bigger and better returns from the more volatile world of equities if they play too safe and invest too heavily in bonds.

According to Corr, investors should consider a number of factors before they invest in bonds.

These include whether the bond is traded at issue price or a higher value, the length of the term to maturity and whether future inflation rates are predicted to erode the returns during this time.

Investors will also need to consider the "coupon" - in other words, whether the interest paid on the bond is fixed or floating.

On floating-rate bonds, the variable interest rate is tied to a benchmark such as a money market index - what exactly the rate is linked to should be investigated.

In the case of corporate bonds, investors will need to assess the credit worthiness of the issuer.

A floating-rate corporate bond with a good credit rating could provide a nice upside in the event that interest rates rise, according to Corr.

It is also possible to invest in a bond fund that gives people exposure to a variety of bonds with varying durations.

At the moment, however, there are 15 different Irish Government bonds listed on the Irish Stock Exchange, with maturity dates ranging from 2005 to 2020.

Scully admits a lot of investors' focus has been on equities of late.

Nevertheless, the current capitalisation of the market is about €34 billion and average daily turnover in the market is €204 million.

With the launch of the ISEQ bond indices, a higher profile for humble bonds is on the way.