The Rising Demand for UK Gilts: A Strategic Investment Play or a Temporary Safe Haven?

Tax-Efficient Gains Amid Economic Uncertainty

The UK gilt market is experiencing a surge in demand, with financial advisers rapidly increasing their clients’ exposure to government bonds. According to AJ Bell, adviser purchases of gilts through its platform rose by 33% in January compared to the previous month, marking an astonishing 436% increase over the past year. This heightened interest is being driven by a combination of attractive yields, favourable tax treatment, and broader macroeconomic factors influencing government borrowing costs.

Why Gilts Are in High Demand

Gilts offer a unique tax advantage: capital gains on these bonds are exempt from Capital Gains Tax (CGT). This has become increasingly important as the CGT allowance has been slashed from £12,300 in 2022–23 to just £3,000 in 2024–25. For investors who buy gilts at a discount and hold them to maturity, this creates an opportunity for tax-free capital gains, making them an attractive alternative to traditional fixed-income or equity investments, particularly for higher-rate taxpayers.

In addition, UK gilt yields have reached levels not seen in over a decade. As of early 2025, the 10-year gilt yield stood at approximately 4.9%, reflecting concerns over rising government borrowing costs and persistently high inflation. This increase in yields means that investors can lock in relatively high returns compared to the past decade, when ultra-low interest rates suppressed bond yields.

The Appeal of Short-Dated Gilts

Investors are particularly interested in short-dated gilts. One example is a gilt maturing in October 2026 with a fixed coupon of just 0.375%, currently available at £94.27. For investors who hold to maturity, the bond will redeem at £100, effectively guaranteeing a capital gain in addition to the small coupon payments. For higher-rate taxpayers, this structure is much more tax-efficient than a high-interest savings account, where interest income is fully taxable.

Broader Market Considerations

While gilts currently offer compelling benefits, it’s important to analyse the broader macroeconomic environment. The Bank of England recently cut interest rates by 0.25% to 4.5%, leading to a slight easing in gilt yields. However, future rate cuts could diminish the appeal of gilts, particularly if inflation remains sticky and the BoE is forced to slow down its monetary easing cycle.

Furthermore, the UK’s fiscal position remains a key factor. Government borrowing costs have risen significantly due to increased debt issuance and concerns over economic growth. If economic conditions deteriorate, gilts could act as a safe-haven asset, further boosting demand. Conversely, if the UK economy recovers faster than expected, investors may pivot back toward equities and other riskier assets.

MY OUTLOOK

In my view, gilts present a compelling short- to medium-term investment, particularly for investors looking to capitalise on tax-free gains. However, this window of opportunity may not last indefinitely. If interest rates fall significantly or economic growth surprises to the upside, gilt prices could rise, reducing future yields and diminishing their attractiveness. Investors should weigh the benefits of tax efficiency against potential interest rate and macroeconomic risks.

For those with substantial capital gains exposure—such as individuals who have recently sold a business—short-dated gilts provide a highly effective tool for managing tax liabilities while preserving capital. Nonetheless, diversification remains key. While gilts are an attractive component of a well-balanced portfolio, relying solely on them without considering equities or alternative assets could limit long-term growth potential.

Final Thoughts

The surge in gilt purchases underscores a broader shift in investor sentiment, driven by tax considerations and higher yields. While this trend makes strategic sense in the current climate, it’s essential to remain vigilant about shifting economic conditions. Investors should stay flexible and be prepared to adjust their allocations as new opportunities and risks emerge.