A gilt is a UK Government liability in sterling, issued by HM Treasury and listed on the London Stock Exchange. The term “gilt” or “gilt-edged security” is a reference to the primary characteristic of gilts as an investment: their security. This is a reflection of the fact that the British Government has never failed to make interest or principal payments on gilts as they fall due. An explanation of terms relating to gilts appears in the glossary.
The gilt market is essentially comprised of two different types of securities - conventional gilts and index-linked gilts – which between them account for around 99% of gilts in issue. An explanation of the different types of gilt appears below. Data are available showing how the breakdown of the gilt market by type of gilt has changed over time.
Conventional gilts are the simplest form of government bond and constitute the largest share of liabilities in the Government's portfolio. A conventional gilt is a liability of the Government which guarantees to pay the holder of the gilt a fixed cash payment (coupon) every six months until the maturity date, at which point the holder receives the final coupon payment and the return of the principal. The prices of conventional gilts are quoted in terms of £100 nominal. However, they can be traded in units as small as a penny.
A conventional gilt is denoted by its coupon rate and maturity (e.g. 4% Treasury Gilt 2016). The coupon rate usually reflects the market interest rate at the time of the first issue of the gilt. Consequently there is a wide range of coupon rates available in the market at any one time, reflecting how rates of borrowing have fluctuated in the past. The coupon indicates the cash payment per £100 nominal that the holder will receive per year. This payment is made in two equal semi-annual payments on fixed dates six months apart (these payments are rolled forward to the next business day if they fall on a non-business day). For example, an investor who holds £1,000 nominal of 4% Treasury Gilt 2016 will receive two coupon payments of £20 each on 7 March and 7 September.
Conventional gilts also have a specific maturity date. In the case of 4% Treasury Gilt 2016 the principal will be repaid to investors on 7 September 2016. In recent years the Government has concentrated issuance of conventional gilts around the 5-, 10- and 30-year maturity areas, but in May 2005 the DMO issued a new 50-year maturity conventional gilt. In June 2013, following market consultation the DMO issued a new 55 year maturity conventional gilt.
Index-linked gilts (IGs) form the largest part of the gilt portfolio after conventional gilts. The UK was one of the earliest developed economies to issue index-linked bonds for institutional investors, with the first issue being in 1981. As with conventional gilts the coupon on an index-linked gilt reflects borrowing rates available at the time of first issue. However, as index-linked coupons reflect the real borrowing rate for the Government rather than the nominal borrowing rate there is a much smaller variation in real yields over time.
Index-linked gilts differ from conventional gilts in that the semi-annual coupon payments and the principal are adjusted in line with the UK Retail Prices Index (RPI). This means that both the coupons and the principal paid on redemption of these gilts are adjusted to take account of accrued inflation since the gilt was first issued. For index-linked gilts whose first issue date is before July 2002, the Bank of England performs the function of calculating and publishing the uplifted coupons on each index-linked gilt following the release of the RPI figure which is relevant to it, while for index-linked gilts first issued from July 2002 onwards the DMO performs this function. The DMO has produced a detailed paper with examples which sets out the method for calculating cash flows on index-linked gilts.
Each coupon payable on index-linked gilts consists of two elements:
- half the annual real coupon. The real coupon is quoted in the gilt's title and is fixed (e.g. 2½% Index-linked Treasury Stock 2016 pays a real coupon of 2½%, 1¼% twice a year);
- an adjustment factor applied to the real coupon payment to take account of the increase in the RPI since the gilt's issue.
Three-month lag index-linked gilts
New index-linked gilts issued from September 2005 employ the three-month indexation lag structure first used in the Canadian Real Return Bond market and not the eight-month lag methodology used for index-linked gilts issued before that date. In addition to the lag being shorter, with this design the indexation is applied in a significantly different way. The new design of index-linked gilts also trade on a real clean price basis. As a result, the effect of inflation is stripped out of the price of the new gilts for trading purposes, although it is included when such trades are settled. The first three-month lag index-linked gilt had a 50 year maturity.
An index ratio is applied to calculate the coupon payments, the redemption payment and accrued interest. The index ratio for a gilt measures the growth in the RPI since it was first issued. For a given date it is defined as the ratio of the reference RPI applicable to that date divided by the reference RPI applicable to the original issue date of the gilt and is rounded to the nearest 5th decimal place.
The reference RPI for the first calendar day of any month is the RPI for the month three months earlier (e.g. the reference RPI for 1 June is the RPI for March). The reference RPI for any other day in a month is calculated by linear interpolation between the reference RPI applicable to the first calendar day of the month in which the day falls and the reference RPI applicable to the first calendar day of the month immediately following. Interpolated values should be rounded to the nearest 5th decimal place.
Daily index ratios and reference RPIs for index-linked gilts with a 3-month indexation lag are published on this website following both the publication each month of the RPI and when a new index-linked gilt is issued.
For more details about these calculations see Annex B of the DMO publication Formulae for Calculating Gilt Prices from Yields. This publication also includes all relevant technical details for both types of index-linked gilts.
Index-linked gilts with a three-month lag trade and are issued on the basis of the real clean price per £100 nominal. Settlement proceeds are calculated by multiplying the real clean price by the relevant index ratio to get the inflation-adjusted clean price and then adding the (inflation-adjusted) accrued interest to this.
Eight-month lag index-linked gilts
To calculate the inflation adjustment two RPI figures are required - that applicable to the gilt when it was originally issued and that relating to the current interest payment. In each case the RPI figures used are those applicable eight months before the relevant dates (e.g. for a November dividend date the RPI from the previous March is used). This “indexation lag” is required so that the size of each forthcoming interest payment is known at the start of the coupon period, thereby allowing the accrued interest to be calculated.
Double-dated conventional gilts
In the past, the Government has issued double-dated gilts with a band of maturity dates. There is now only one of these bonds remaining in issue, 12% Exchequer Stock 2013-2017. The Government can choose to redeem these gilts in whole, or in part, on any day between the first and final maturity dates, subject to giving not less than three months' notice in the London Gazette. Where the coupon on a double-dated gilt is higher than the prevailing market rate, the Government will usually have an incentive to redeem the gilt on the first maturity date and refinance it at the lower prevailing rate. It is expected that the final remaining double-dated gilt will be redeemed on 12 December 2013.
The remaining double-dated gilt is a “rump”. Rump gilts are small, generally older, illiquid gilts in which the Gilt-edged Market Makers are not required to make markets. Rump gilts are not available for purchase from the DMO.
There are currently eight undated gilts in issue. These are the oldest remaining gilts in issue, some dating back to the nineteenth century. The redemption of these bonds is at the discretion of the Government, but because they carry low coupons 'in perpetuity', it would not be cost effective over the long run for Government to redeem and refinance them until long yields had fallen sufficiently below the coupon level for a sustained period, and it could be judged that future refinancing would be cost effective. Most undated gilts pay interest twice a year; however some pay interest four times a year.
The redemption of undated gilts is subject to certain conditions being met, which vary between the different gilts. For example, some require not less than three months' notice in the London Gazette (e.g. 3½% War Loan), some not less than one month's notice (e.g. 2½% Annuities) whilst others can only be redeemed on an interest payment date (e.g. 4% Consolidated Loan). With the exception of 3½% War Loan (which has £1.9 billion in issue) all undated gilts are “rumps”.
Floating rate gilts
The last remaining floating rate gilt redeemed in July 2001. The main difference between floating rate gilts (FRGs) and conventional gilts was that for FRGs each coupon was set in line with short term interest rates.
Strips is the acronym for Separate Trading of Registered Interest and Principal Securities. “Stripping” a gilt refers to breaking it down into its individual cash flows which can be traded separately as zero-coupon gilts. A three year gilt will have seven individual cash flows: six (semi-annual) coupon payments and a principal repayment. Gilts can also be reconstituted from all of the individual strips. The strip market began in the UK on 8 December 1997 and all strippable gilts are currently conventional fixed coupon instruments. Information of which gilts are strippable is available from the gilts in issue section of this website.
There are two series of strippable gilts; the first paying coupons on 7 June/ 7 December, became strippable in December 1997. The second series, paying coupons on 7 March/ 7 September, followed in April 2002. Data on gilt stripping activity are available on this website.