Retail bonds: What investors should look for
Almost all retail bonds are secured against a company as a whole, rather than specific assets such as property, and if the company is in financial trouble you'll find yourself in a queue of creditors.
But bondholders stand ahead of ordinary shareholders, so if the company is one you'd normally consider buying shares in, not only is your capital safer but your bond interest payment or coupon is also safer than an equivalent dividend.
But that comes at a price. "It is worth remembering you won't get the upside in bonds [either in price or in income] that you may get in equities," says Hargreaves Lansdown's investment analyst Rob Morgan.
You won't find much investment research on retail bonds. The prospectus is usually on the issuer's website but understanding the capital structure, seniority and covenant details is not easy. On top of any research you do, you need to be confi dent in the strength of the company.
Rise and fall
It's worth bearing in mind that bond prices aren't immune to the same news and rumours that affect shares. A company that issues a profit warning may well suffer a fall in bond prices, though generally less severe than that which afflicts shareholders.
Bonds have tax advantages as most pay coupons gross and are exempt from capital gains tax. But because bond coupons are taxed as income, tax wrappers are still important.
However, issues with less than five years to run are not eligible for individual savings accounts but can be put in personal pensions. If you sell your bond before the coupon is due, you'll get a pro-rata portion of the payment, known as 'accrued interest'.
Diversification is key when investing in retail bonds. You need to offset risk by having a number of holdings, just as with shares. A new Fixed Income Order Book (fiob.co.uk) has been set up to provide retail investors with an opportunity to cut the bid-to-offer spreads that hamper trading in all but the most liquid bonds that aren't yet on the ORB.
A document which describes and advertises a new share issue or flotation (IPO in US) to potential investors, the contents of which are regulated by UK company law, the Financial Services Authority (FSA) and the London Stock Exchange. The prospectus should include details such as a description of the company’s business, financial statements, biographies of executives and directors, detailed information about their remuneration, any current litigation, a list of assets and other information deemed relevant for consideration by a prospective investor.
An interchangeable term for shares (UK) or stocks (US). Holders of equity shares in a company are entitled to the earnings and assets of a company after all the prior charges and demands on the company’s capital (chiefly its debts and liabilities) have been settled. To have equity in any asset is to own a piece of it, so holders of shares in a company effectively own a piece proportionate to the number of shares they hold. (See also Shares).
If you own shares in a company, you’re entitled to a slice of the profits and these are paid as dividends on top of any capital growth in the shares’ value. The amount of the dividend is down to the board of directors (who can decide not to pay a dividend and reinvest any profits in the company) and they will be paid twice yearly (announced at the AGM and six months later as an interim). Dividends are always declared as a sum of money rather than a percentage of the share’s price. Although dividends automatically receive a 10% tax credit from HM Revenue & Customs (HMRC), which takes the company having already paid corporation tax on its profits into account. Dividends are classed as income and, as such, are liable for personal taxation and so shareholders have to declare them to HMRC.
Capital gains tax
If you buy an asset – shares, a second home, arts and antiques – and then sell it at a later date and make a profit, that profit could be subject to CGT. You don’t pay CGT on selling your main home (which is why MPs “flipped” theirs so regularly) or any securities sheltered in an ISA. Individuals get an annual CGT allowance (£10,600 in 2010/2011) but if you have substantial assets it’s worth paying an accountant to sort it for you.