A gilt is a type of bond issued by the government of the United Kingdom with a maturity of one year or more. The term "gilt" is short for "gilt-edged security," which originally referred to the gold-leaf edging on paper certificates.
Gilts are also debt instruments issued by the UK Government, but they have some differences to UK Treasury bills.
Gilts are essentially loan agreements where investors lend money to the British government in exchange for regular interest payments, known as coupon payments, and the promise of repayment of the principal amount at a specific date in the future.
There are two main types of gilts:
- Conventional Gilts: These have a fixed coupon rate, meaning the interest payments remain constant throughout the life of the gilt. The government repays the face value of the gilt at maturity.
- Index-linked Gilts: These are linked to the UK Retail Price Index (RPI), a measure of inflation. The principal and the interest payments are adjusted in line with inflation, protecting investors from the eroding effects of inflation on their investment.
Gilts are considered to be low-risk investments since they are backed by the UK government.
While the UK enjoys some of the highest credit ratings from major agencies, it is not unprecedented for the government to default on these types of bonds.
Following the First World War, the UK government restructured its debt and altered the original terms of bonds on issue. In 1932, the Government also requested that investors in the War Loans scheme accept a lower interest payment to help avoid a more dire financial situation.
Nevertheless, in the modern financial system, gilts play a crucial role. They are deemed as reflective of the “risk-free” rate of return that investors can expect in markets since it is all but guaranteed that the UK government will repay their debts.
