Why we're putting cash to work in inflation-linked bonds

Turning excess cash into opportunity

Cash has been a valuable asset class over the past two years as interest rates have risen sharply. However, as markets move through the next phase of the cycle, we believe investors can be rewarded for moving a portion of cash into assets offering better long-term risk-adjusted return potential.

As part of our latest tactical asset allocation, we have reduced any cash allocations above a 1% minimum level and reallocated it to short-dated US Treasury Inflation-Protected Securities (TIPS).

The change affects portfolios that hold both excess cash and government bond exposure, including a number of AJ Bell Funds and MPS.

Why move away from cash?

The decision reflects our assessment that there continues to be a more attractive balance of risk and reward available further along the yield curve than in cash holdings, particularly given current market conditions.

Since the additions we made to nominal bonds in March and April, US real yields have risen materially, creating an opportunity to lock in attractive inflation-adjusted income streams. At the same time, the cost of hedging currency exposure back to sterling remains low, preserving much of the underlying yield advantage for UK-based investors.

In our view, these conditions make short-dated US TIPS an attractive alternative to cash.

Why short-dated US TIPS?

The appeal of short-dated US TIPS lies in their combination of relatively high real yields and limited interest-rate sensitivity.

Unlike conventional government bonds, TIPS provide inflation-linked exposure while still being backed by the US government. By focusing on shorter maturities, we can increase exposure to real yields without materially increasing duration risk.

This means portfolios gain greater exposure to inflation-adjusted returns while maintaining a cautious stance towards interest rate volatility.

What has changed?

The adjustment is straightforward. Half of each relevant portfolio's cash allocation above the 1% minimum level has been moved into short-duration US TIPS.

The result is a meaningful increase in real-yield exposure while leaving nominal bond exposure unchanged.

What does this mean for your clients?

Importantly, this is an evolutionary rather than revolutionary change.

The adjustment modestly increases portfolio duration and real-yield exposure, but the overall impact on expected risk and return is limited.

For advisers, the key message is that we are seeking to improve the quality of fixed-income exposure rather than materially alter portfolio risk.

The bottom line

After a period in which holding cash was increasingly rewarding, we believe the balance has begun to shift. Higher real yields now offer an opportunity to enhance portfolio construction without taking meaningfully more risk.

By reallocating a portion of excess cash into short-dated US TIPS, we are seeking to capture attractive inflation-adjusted yields, improve portfolio diversification and resilience.