With savings rates dismally low, investors are searching for better rates of return. Mini bonds, which are loans to companies, certainly offer investors a great deal more but are they worth the risk?
As far as companies (usually small to medium size) are concerned, mini bonds offer an ideal alternative to bank finance.
To circumvent the bank, the company goes direct to individual investors and in return for their money, the mini-bond provides income via an agreed ‘coupon’, paid at regular intervals (quarterly, half-yearly or annually).
At the end of the agreed term the investors capital is returned in full. In theory, the company has benefited from a cash boost to develop its business.
Everyone’s a winner
It has been able to raise finance at competitive rates at a time when some banks are still reluctant to lend to many firms. From the investor’s perspective, they receive tidy interest on their capital for their trouble.
The rates of interest on offer from mini-bonds certainly are attractive typically ranging between 6% to 8% (compared to many bank or building society accounts paying around 2%).
In recent years, companies as diverse as Hotel Chocolat, John Lewis, Ladbrokes and the University of Cambridge have issued mini-bonds as a way of securing debt-based finance.
Mini bonds have also been used as a source of finance in the world of rugby. Harlequins launched a five-year, 5.5% mini bond in order to raise £7.5million for club development. Their arch rivals Wasps also launched a bond offering 6.5% and the club hit its £35m fundraising target within days.
Mini-bonds benefit from the loyalty of their investors who frequently have an emotional attachment to the issuer in question. It allows investors to feel more involved and play an important role in the future success of a brand they have an affinity with.
So, it’s’ a win-win situation? Well not quite. As Patrick Connolly, Certified Financial Planner with Chase de Vere, points out, while returns on mini bonds can appear very attractive, particularly with general interest rates at historic lows, it would be a mistake to compare their rates directly with those from savings accounts.
“The danger is that investors don’t fully appreciate the risks they’re taking and that they are putting their money at risk, especially if the bonds are offered by companies which they know and trust.”
He adds: “Unlike with most UK based savings accounts or investment funds, investors in these bonds cannot fall back on the Financial Services Compensation Scheme (FSCS) if it all goes horribly wrong and their provider is unable to pay them interest or repay their capital.”
And this does happen. In January 2015, we saw a high-profile default when the mini bonds issued by Secured Energy Bonds plc stopped paying interest to investors.
Buyers were assured at launch that the money would be used to install solar panels on schools across the UK. But they were installed at only six of the 22 schools planned. The money raised from investors went, instead, to prop up the parent company, CBD Energy in Australia which had financial troubles.