With government bond yields at levels not seen for years, investors are once again weighing the attractions of fixed income against the income and growth potential available from equities. Some say the answer may not be as clear cut as headline yields imply.
Rising government bond yields have put fixed income back into focus, but they are also raising fresh questions about how investors balance income, growth and risk within portfolios.
With the yield on the UK’s 10-year gilt approaching levels last seen before the financial crisis, the appeal of government bonds has undoubtedly increased.
For investors seeking a known return and a degree of capital certainty at maturity, today’s yield environment looks very different from the ultra-low interest rate era that followed the global financial crisis.
Russ Mould, investment director at AJ Bell, says a combination of factors is driving yields higher.
“Heightened tensions in the Middle East, concerns over the UK’s fiscal situation, and sticky inflation are all feeding into government bond yields, which stand within a whisker of the highest level since 2007, using the 10-year gilt as a benchmark.”
For income-focused investors, the comparison between bonds and equities has become more relevant. At the time of writing, AJ Bell calculated the yield on a 10-year gilt at 5.40%, comfortably above the FTSE 100’s forecast dividend yield of 3.3% for 2026.
That shift could tempt some investors towards fixed income, particularly if economic uncertainty remains elevated.
“Any investor who is nervous about the economic outlook and feels that inflation is not about to break out on the upside could start to look toward fixed income and away from equities as a result,” says Mould.
Yet focusing solely on headline yields risks overlooking a key distinction between the two asset classes. While gilts offer a contractual return if held to maturity, equities retain the potential to grow both earnings and shareholder distributions over time.
Indeed, despite concerns surrounding inflation, commodity prices and economic growth, AJ Bell notes that analysts continue to forecast record profits and record dividend payments from the FTSE 100 over the coming years.
Dividend forecasts for 2026 currently stand at £90.3 billion, while announced share buybacks this year total £46.7 billion.
As Mould points out: “However, the case for equities is not lost.”
The wider market backdrop remains challenging. Tim Armitage, investment strategist at Quilter Cheviot, says investors are grappling with multiple risks simultaneously.
“Volatility has re-entered the picture again for financial markets as investors get increasingly concerned about a number of risks taking root.”
Inflation concerns have resurfaced as oil prices move higher, while borrowing requirements and expectations for future interest rates continue to influence bond markets.
According to Armitage, investors are trying to assess the implications of an environment where economic growth remains relatively resilient despite tighter monetary conditions.
“This is meaning investors are expecting further rate hikes and this is negatively impacting both equities and fixed income.”
The current environment may serve as a useful reminder that income investing rarely comes down to a simple comparison of yields.
While bonds are once again offering meaningful levels of income, equities continue to provide exposure to earnings growth, dividend increases and potential capital appreciation.
Armitage believes investors should avoid becoming distracted by short-term market moves.
“For investors this might feel like an uncomfortable moment, with both bonds and equities struggling in recent days with the prospect of higher inflation and elevated interest rates for a considerable period of time.”
However, he concludes with a reminder that remains relevant regardless of market conditions: “The important thing for investors to remember is that volatility is a natural feature of financial markets and to use such events to reconfirm what it is they are trying to achieve.”
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The writer’s views are their own and do not constitute financial advice.
This information should not be relied upon by retail clients or investment professionals. Reference to any particular investment does not constitute a recommendation to buy or sell the investment.
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