Bonds are loan certificates issued by a government or company to raise cash, and the issuer pays interest at a fixed rate. They are the obvious way to diversify from equities because they are much less risky, and have had long spells of moving in the opposite direction, although more recently this has not happened. One rule of thumb is to invest your age in bonds as a percentage of your portfolio. If you are aged 30, bonds would be 30 per cent of your portfolio but, if you are aged 50, it would be 50 per cent. You can buy bonds from some online dealers but typically by telephone rather than online.

The safest kind of UK bond is issued by the government, and is known as a gilt-edged stock or gilt. Gilt prices tend to go down when interest rates go up because investors in gilts can get better returns elsewhere. Gilts are repaid at their nominal value, and the price moves towards this level as the redemption date approaches.

Gilts are categorized under Shorts (under 5 years until maturity), Mediums (5–15 years) and Longs (over 15 years), as well as Undated (no fixed redemption date) and Index-linked, which pay a coupon and capital redemption adjusted for inflation according to the Retail Prices Index, and are for risk-averse investors. The longer dated the gilt is, the more its price will tend to fluctuate in line with interest rate changes.

The current yield is the annual interest of the bond, divided by the current price. The lower it is, the higher the gilt price will be, and vice versa. The gross redemption yield is widely used to compare returns on bonds. It is the current yield plus any notional capital gain or loss from the current date to final exemption. If you buy a gilt cum dividend, you will receive the interest payment for the period, and so must compensate the seller. But if you buy ex-dividend, you will not receive the dividend.

Corporate bonds work in a similar way to gilts, but they have a risk of default and so pay slightly higher interest. Investors in corporate bonds face price risk, linked to interest rates, as applies to government bonds, and credit risk, which is the likelihood that the company issuing the bond will fail to pay interest or repay the principal.