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They pay up to 7% but are retail bonds worth a risk?

13 October 2012

Headline annual income of up to seven per cent has attracted a wave of money into retail bonds, which are issued by companies and traded on the stock market. As well as household names such as Tesco and water giant Severn Trent, less well-known firms are turning to the market. Property companies PHP and CLS Holdings, insurer Beazley and broker ICAP have issued bonds. The latest bond from property company Workspace, paying six per cent, started trading last week. And stockbrokers are being briefed tomorrow about a possible new bond from another property firm, St Modwen. Phil Wong of stockbroker Redmayne-Bentley in Leeds says retail bonds are bringing new investors into the stock market. ‘We’re seeing buyers who are moving from cash,’ he says. ‘They need an income and they don’t see any savings accounts catching their eye on the High Street.’ Safety-first investors rush into bond funds But investors must understand what they are getting into. Al Thaw, head of investment product at Barclays Stockbrokers, says: ‘There is a danger of a herd mentality. Investors should be cautious and build a spread of different holdings.’ Helen Kanolik, who runs HelenK Financial Advice, in Wimborne, Dorset, says: ‘Companies don’t issue these bonds to help investors looking for income. They issue them because they want to raise money. ‘You have to do as much research on the company behind a bond as you would if you wanted to buy a share in that company.’ Steven Weller, 47, agrees. He has put about 15 per cent of his investment portfolio into a range of bonds, including five of the new retail offers such as Tesco, CLS Holdings and Beazley. The former currency trader who now consults part time says: ‘These are potentially great products to have in your portfolio to diversify income. But you owe it to yourself to read all the documentation and to do some extra research on the companies.’ Steven, a keen golfer who lives in Hartley, Kent, with wife Melanie, 46, and children Sam, 17, and Sophie, 14, invests with Barclays Stockbrokers. Would-be investors must have a clear idea of the pros and cons of retail bonds. Each bond pays a fixed rate of income – known as the coupon – for the life of the bond. It is typically paid twice a year. The income will reflect the risk of the investment. Rob Burgeman, a divisional director in the London office of stockbroker Brewin Dolphin, says: ‘The higher the yield, the riskier the investment.’ Bonds that run for more than five years – the majority – can also be held in a self-select Isa through a stockbroker. Each bond matures on a known date. Investors who own the bond on that day get back a set sum. This is usually the face value of the bond, so £1 is returned for every £1 invested. Bonds can be traded on the Order Book for Retail Bonds (OBR) on the London Stock Exchange. This means investors can buy into issues they have missed, or sell up and move their money elsewhere. But prices are not guaranteed. They will fluctuate in line with the fortunes of the business, the demand for a particular bond and market conditions. At present, most bonds issued this year are trading slightly above issue price. Wong says: ‘That’s a sign there is demand for them in the secondary market. What we don’t know is how that will develop and whether most investors are looking to hold on to the bonds until maturity.’ However, investors face two big risks. The promised income, and the eventual return of capital, depends on the bond issuer being able to honour its payments. If a company hits financial trouble, investors could lose both their income and some capital. Unlike bank or building society ‘bonds’ – deposit accounts by another name – retail bonds are not protected by the Financial Services Compensation Scheme. There is also a general market risk. Big changes in interest rates will have an impact on bond prices. If savers can earn seven or eight per cent on the High Street, a fixed return of five per cent is less attractive.

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