In my June letter, I cover:

• Why government debt’s role in an investment portfolio varies over time

Government bonds’ historical effectiveness as portfolio protectors (during equity downturns) has depended more on inflation conditions than on the quantum of government debt.

• The impact of high inflation environments on government bond returns

When inflation is elevated, bonds have historically struggled to protect portfolios, often delivering negative returns and undermining their traditional role as diversifiers.

• How our thinking is reflected in our investment positioning

We favour equities over bonds, while maintaining diversification – in certain portfolios – through higher-yielding bonds, gold and liquid alternatives.

The value of investments, and the income from them, can fall as well as rise and you may not get back what you put in. Past performance should not be taken as a guide to future performance. You should continue to hold cash for your short-term needs. This article should not be taken as advice.

I’m fortunate to wear two hats – one as Chief Investment Officer here at Coutts, and another as a member of the Marylebone Cricket Club. Sitting at Lord’s just a few days ago, in near-perfect cricket weather, my two worlds briefly collided.

Watching the play unfold, a shared truth emerged between my beloved game of glorious uncertainties and the complex machinations of government bond markets. Put simply, the factors widely assumed to drive outcomes are rarely the ones that have the greatest influence.

Pace without wickets: what fast bowling teaches us about national debt

In Test cricket, the most important factor for success is the ability to take 20 opposition wickets. Most people assume that the best wicket takers are the fastest bowlers.

As a fast(ish) bowler in my distant past, it’d be flattering to agree. It’s exciting to see a ‘tearaway quick’ steaming in, and fast bowlers are often the most enigmatic and magnetic players. But speed is a red herring, and the statistics don’t lie: measured by number of wickets, the fastest bowlers of all time are not, in fact, the most impactful.

What’s this got to do with national debt and government bond markets? Much like fast bowlers and their ultimate impact on cricket outcomes, high national debt garners a lot of public attention, but our analysis suggests it doesn’t mean much for government bond returns when it counts.

We are multi-asset investors, so I’m especially interested in what matters to government bond returns when equity markets fall. Traditionally, multi-asset investors have used government bonds to mitigate equity risk, cushioning the blow by generating predictable income and preserving capital during inevitable equity market downturns. At least, this has been the general understanding.

However, evolving market dynamics have rendered the relationship between equities and government bonds increasingly complex.

Do higher national debt levels impact government bonds’ role as a protector?

In theory, higher national debt could weaken a government’s perceived ability to service that debt, increasing the risk premium demanded by investors. However, based on the US market, there is little evidence to suggest that high debt levels are linked to government bond market resilience during equity market volatility.

Why the obvious force isn’t always the dominant one

The US boasts the world’s largest equity market as well as its largest government bond market. As a result, it makes the ideal case study for bonds’ potential role in an equity market fall.

My team and I examined all instances of equity drawdowns (peak-to-trough falls) of at least 15% in US equities since the 1870s. We found 26 episodes of these sharp equity falls. For each episode, we assessed whether or not US government bonds provided effective protection to investors on that occasion.

Our conclusion was that, overall, the protective performance of government bonds was not consistent, and government bonds only delivered positive returns in a little over 40% of cases. Wider factors had a role to play in government bonds’ ability to protect, but in this field, national debt was akin to speed of the fast bowler’s deliveries: lots of attention, dubious influence.

High national debt levels did not historically hinder bonds’ protection abilities, nor did low national debt levels guarantee their success. 

Source: Coutts, Shiller. Data accurate as at 27/05/2026.

For example, when national debt was ‘high’ in 2007, 2020 and 2021, bonds performed well in some equity market downturns, but poorly in others. Likewise, lower‑debt periods such as 1929 or the late 1960s included both good and bad results for government bond investors during the sharpest equity market falls.

You can find out more about our views on national debt in my colleague Joe Aylott’s recent CIO Weekly - Why high government debt need not cause immediate concern.

So, if pace doesn’t decide outcomes in cricket, and if national debt doesn’t decide government bonds’ ability to protect, what does?

Controlling the swing: how inflation shapes the protective role of bonds

Enter, the swing bowlers. These specialists can move a ball in the air to deceive a batter, and they are the most successful at taking wickets. From Wasim Akram to James Anderson, those who harness their swing can control the game.

The swing bowler in government bond markets is inflation.

To prove it, we ran the above analysis again. This time, instead of comparing government bond performance to starting government debt levels, we compared it to inflation levels (i.e. the US Consumer Price Index, or CPI). A clear pattern emerged: when inflation was high, government bonds did not protect as well as they did when inflation was low. 

Source: Coutts, Shiller. Data accurate as at 27/05/2026.

When equities fell sharply while inflation was below 5%, US government bonds showed their protective characteristics relatively reliably, and delivered an average return of more than 5%.

But when equity markets sold off while inflation was 5% or higher, it was a very different situation: US government bonds were less protective and generated an average loss of 12%.

In short, in environments of low inflation, government bonds have been a reliable hedge against equity market falls. In environments of high inflation, they have almost never worked.

Swing trumps pace: inflation’s edge over government debt

If fast bowling captures attention, it is swing that decides matches. And while government debt levels typically don’t come into the equation for bond investors, inflation is the real problem.

History gives us comparators to bring this to life.

From 1916 to 1920, US debt‑to‑GDP was just 20%. However, wartime era inflation was high (16.4%), destroying both real and nominal returns on bonds. In this period, US 10-year government bond returns were -33%.

Just a few years later, from 1929 to 1932, the US debt‑to‑GDP ratio was similarly modest at 22%, but CPI was deeply negative (-5.8%). In this period, US 10-year government bonds returned an impressive 38% as low inflation collapsed yields and drove bond prices higher.

In these examples, we’re looking at the same government debt burden, but opposite outcomes: further evidence that inflation is the main event. When a swing bowler masters trajectory, the batsman is left beaten without reply.

A helpful surface: economic growth and bond market outcomes

But even swing operates within a broader context: the pitch conditions underfoot. For government bonds, economic growth – high or low – can influence performance amid an equity market fall.

This is reflected in our analysis. Like a grassy pitch helping bowlers to take wickets more easily, government bonds protected against equity market downturns fare better in low‑growth environments. In a low-growth period, US 10-year government bonds historically provided positive returns just over half of the time, but only a quarter of the time during periods of high growth.

But the best swing bowler can take wickets on any surface, and inflation is still the dominant factor. According to our analysis, when inflation is high, it’s historically overwhelmed the economic growth cycle entirely.

In equity drawdown periods with low growth but high inflation, government bonds delivered positive returns less than 20% of the time. When both growth and inflation were high, bonds never once delivered a positive return during sharp equity falls.

Runs on the board: why starting yields matter

So far, we’ve focused on what drives government bond behaviour in periods of equity market stress. But for long-term investors, a different question matters: what drives nominal returns over time?

Investors buy bonds for more than just their performance versus equities, or their diversification qualities. Another critical factor is the regular income government bonds provide. In that regard, the single most important factor when it comes to gauging the long-term returns offered by bonds is their starting yield.

Starting yields are the annualised rate of return bond investors can expect to receive if they buy a bond at its market price and hold it until maturity. For example, the ‘starting yield’ on a ten-year UK government bond is around 5% today. You would receive 5% as income annually, as a proportion of your total investment in the bond, for the next decade if you held the bond to its maturity.

Professional investors don’t always hold a bond to maturity, rather they regularly rebalance a blended bond portfolio of different bonds to achieve a consistent maturity exposure – such as ten-year exposure.

Importantly, starting yields are closely correlated with subsequent returns on a regularly rebalanced blended government bond portfolio. Almost nothing else seems to matter – it is the single strongest predictor of a government bond portfolio’s total return over time. 

Source: Coutts, Shiller. Data accurate as at 27/05/2026.

This relationship has lasted 150 years, and we continue to expect it to hold. In our view, relatively predictable, attractive long-term returns are a core reason to hold government bonds. This is why they continue to make up a reasonable part of our multi-asset class portfolios, even as we tend to hold a broader suite of diversifiers.

Setting the field: our core investment views

Putting all of the above in context, we’re not concerned about the impact of government debt levels on government bond returns. However, set against a backdrop of inflationary pressures, government bonds may currently be less reliable when it comes to protecting against downturns in equity markets.

Nevertheless, we believe attractive starting yields still allow government bonds to play a valuable role in well-diversified investment portfolios. And yields are generally more attractive for government bonds today than they have been for years.

It’s also important to remember that – as global, multi-asset investors – government bonds are not the only tactic we can use in search of variety and protection.

Below, we recap some of our highest-conviction investment views.

Bonds offer attractive returns, but equities remain our preference for now

While we’re still underweight bonds versus equities, bonds continue to serve an important purpose in our investment strategies. Today’s attractive starting yields point to attractive long-term returns moving forward.

Strong corporate earnings have supported equity market performance in 2026 so far against a backdrop of geopolitical noise. Our proprietary analysis continues to point to an economy in an ‘expansion’ phase, a backdrop that’s historically favoured equities over bonds. As a result, we currently still expect equities to deliver stronger returns than bonds over time.

Bonds are not the only place to look for diversification

In the interests of robust diversification within our investment portfolios, we hold exposure to alternative assets, including gold and liquid alternatives, in certain portfolios.

Gold has been supported by sustained central bank purchases and a broad investor base, although it did not consistently act as a traditional ‘safe haven’ during the heightened geopolitical tensions seen in March. Liquid alternatives, meanwhile, offer a strong complement to portfolios by offering diversification, but remain appropriate only for certain investors.

Emerging markets: attractive valuations and strong growth drivers

At the start of the year, our regional analysis pointed to fresh opportunities across emerging market equities, marking a shift after several years during which potential was perceived as limited. As we expect the global economy to move into a more expansionary phase, emerging markets look well placed to benefit.

Nowhere has this been more evident than in Asian markets like South Korea and Taiwan which have generated tremendous returns. However, despite significant gains in 2026, valuations remain appealing, with supportive earnings growth – particularly in areas like semiconductors, which are benefiting from continued investment in AI by ‘hyperscalers’ in the US.

In a nutshell: We favour equities over bonds and enhanced diversification through gold and liquid alternatives. We also maintain an overweight allocation to emerging market equities to capture AI-related growth opportunities.

In both cricket and bond markets, it’s rarely the most visible forces that determine the outcome. Pace may capture attention, but it is the movement and the conditions that so often prove decisive.

This understanding lies at the heart of our investment philosophy at Coutts, shaping how we assess risk, evaluate opportunity and position portfolios over time. There’s, perhaps, a quiet echo of that perspective in the long history of the Coutts Cricket Society, founded in 1864 – a reminder that an appreciation for nuance and conditions tends to endure.

On and off the field, understanding the interplay beneath the surface matters most, whatever the pace, the swing or the pitch.

Yours sincerely,

Fahad Kamal

Please note: In July, instead of our usual monthly letter, we’ll be sharing our CIO Mid-Year Investment Outlook – a deeper, more comprehensive update featuring investment perspectives and insights from across our team.