Mini-bonds: the trendy investment that's bad for most investors
Adrian Lowcock of Hargreaves Lansdown argues that the current trend for mini-bonds could be bad for your financial health.
Mini-bonds issued by the likes of the Jockey Club and Nuffield Health have attracted a lot of attention recently. And they have divided opinion. Today Adrian Lowcock, investment manager at Hargreaves Lansdown, looks at why the mini-bond trend concerns him. Tomorrow David Kilmartin, business development director at Capita Registrars will look at the positives of mini-bonds.
The search for income is one of the biggest trends in investments at the moment. The interest paid on cash has slowly been squeezed to the point where only a handful of accounts now pay interest above the rate of inflation. Investors are willing to pay higher prices for income yield wherever they can find it.
This search for yield has created an opportunity for others and we are seeing an increasing number of companies issuing retail bonds. Most recently Nuffield Health has announced it is issuing a bond paying 6% gross interest for a fixed five-year term.
There are a number of concerns I have about the such bonds and their marketing to the public.
Mini-bonds are unsuitable for many
Firstly there are two types of retails bonds; those which are listed on a stock exchange and tradeable and those which are unlisted, sometimes called mini-bonds. My greatest concern is with those that are unlisted.
I do not think unlisted bonds are appropriate for the majority of retail investors. Investors should be looking for certain things from their investments, namely, it should be easy to sell them, and there should be a secondary market where they can get transparent pricing to determine the value of their investment. In addition, few investors want to hold a corporate bond from launch to maturity.
But with mini-bonds you have to hold them until maturity. As a result, you only benefit from the income return - there's no chance to take advantage if it grows in value during the term by selling it off.
Unlisted bonds are also unattractive investments because they may not be eligible for inclusion inside an ISA. This is very important because the income earned on bonds or bond funds inside an ISA is completely tax free.
For example, the gross yield for the Jupiter Strategic Bond is 5.4%. The yield on the Nuffield Bond is 6% for a basic rate taxpayer, meaning the net yield would be 4.8%. For a higher rate taxpayer it would be 3.6%. Once you take tax into consideration, suddenly it's not that attractive an investment opportunity.
Some bonds issue “bonus” interest, in the form of vouchers, points or other perks. These cost the company very little but are awarded to the investor at retail price.
I would much rather have the cash, then decide how I want to spend my money or save it. I put a greater value on a cash interest than on incentives to spend money.
If it all goes wrong
Finally, the structure of the bond - and indeed the company issuing the bond - has a significant effect on the risks to the investor. Many of these bonds are issued by subsidiaries and are unsecured against any specific company assets. That means that in the event of bankruptcy, investors in mini-bonds are at the bottom of the list for repayment.
Why I'm uncomfortable
There is a lot of work required to analyse bonds. The idea that investors can buy unlisted bonds which cannot be traded makes me very uncomfortable
For listed bonds, the London Stock Exchange has made significant progress with its Order book for Retail Bonds (ORB) market in providing essential liquidity, making it easier to value your investment and to be able to easily hold the bond inside SIPP and ISA wrappers.
I urge investors to think carefully about any individual bond before you buy as you really need to appreciate the risks you are taking when lending your hard earned money to a company. I understand the reasons for looking to alternatives to cash. But you must consider the risks, liquidity, tax position and available alternative investments before handing over your cash.
Adrian Lowcock is investment manager at Hargreaves Lansdown