Richard Hodges, manager of the £1.6bn Legal & General Investment Management Dynamic Bond trust, said it will take until 2017 for the Bank of England (BoE) to create an inflationary environment to reduce the UK’s soaring debt-to-GDP levels.

Until this occurs and greater levels of growth are evident, Hodges expects interest rates to remain at rock bottom.

“The BoE is trying to encourage inflation and will not stop its pursuit until wage inflation comes through, which may take a while to filter through, resulting in interest rates not rising until 2017,” he said.

“For this reason, I have 10% of the fund in inflation-linked securities to protect capital against rising inflation.” 

His view is shared by Citigroup which expects rates to remain at 0.5% until mid-2017.

Hodges predicts interest rates will rise sharply in 2017, shooting up to 2.5% in line with 10-year government bond yields.

“When rates do rise the BoE needs to instantaneously put them up to 2.5% in order to compensate for the fact gilt yields are in a range of 2% to 2.5%,” he added.

Elsewhere, Hodges said bond managers need to accept higher volatility in the pursuit of returns, given that value has dried up at the lower end of the fixed income credit spectrum.

“I have exposure to both peripheral sovereigns and corporates. I do not want to be a long-term holder of these securities, but realistically it is an attractive short-term opportunity to boost yield.”