A safe place for your money... so long as the stock markets do not fall much

Tony Lyons reports on the new wave of guaranteed growth and income bonds offered by building societies, banks and insurance companies
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The rest of the savings industry is taking advantage of the sudden bout of nerves created by events at Morgan Grenfell by marketing products which imply greater protection of capital. Nowhere is this more evident than in the way insurance companies, banks and building societies are all busily promoting their fixed-term guaranteed growth bonds and income bonds.

Guaranteed growth bonds are currently offering between 4 per cent and 6.5 per cent net plus a full return of capital at the end of the period, usually two to five years. But many investors find these returns unattractive and are looking at higher-income or growth bonds, seeing them as a means of generating a higher income rather than accumulating capital.

Higher income bonds do not offer a full guarantee of capital but they do offer above-average rates of return, and a return of capital providing a chosen stock market index does not fall during the investment period. If it does, then the income withdrawn will eat into the capital investment.

Offers open and close rapidly. Abbey Life, for example, closed its High Income Bond offer on 1 July, having attracted more than pounds 250m, then a week later launched a second issue. The new bond offers an income of 9 per cent net a year, or 0.7 per cent a month, for five years to basic- rate taxpayers and a return of capital or accumulated growth of 55 per cent providing the FT-SE 100 stock market index in London and the S&P 500 index in New York do not fall by more than 5 per cent over the period. If the two indices rise by more than 40 per cent over the five years, then the bondholders will receive a top-up bonus of 15 per cent on maturity.

One of the highest returns comes from Financial Assurance, which offers 10.6 per cent net income a year or 167 per cent growth over five years, providing the FT-SE 100 and the S&P 500 do not fall.

It also offers its Income Safeguard Bond for the more cautious investor. This will give an income of 8 per cent net and a full return of capital even if the two indices fall by as much as 20 per cent over a five-and- a-half year term. Any more, and the investor will only receive back the capital invested less the income paid out.

Another attractive offer is from Friends Provident, which has launched its first high-income bond. This pays out 10.5 per cent net or 65 per cent growth over five years and is linked to the performance of the London and New York indices. Minimum investment is pounds 7,500. For the even more cautious saver, the NPI Guaranteed Investment Bond gives 50 per cent growth over six years with a full return of capital. If the FT-SE index doubles by the end of the term, the return will be higher.

Clerical Medical International, based on the Isle of Man, is offering a bond which will pay out 140 per cent of any rise in the FT-SE 100 or 155 per cent of any rise in the Nikkei 225 at the end of a six-year investment period. The investor can choose which index to link to. There is a guarantee of a full return of capital should the chosen index fall.

Sun Alliance, through its direct marketing arm, is offering a six-year Carnation Bond. This will pay out a 42 per cent return at the end of six years plus a full return of the original investment. In addition, providing the Nikkei index rises more than 42 per cent, the investor will receive half of the additional appreciation.

Unlike the life insurance companies, banks and building societies cannot pay out interest net of tax to basic-rate taxpayers. Interest is paid out gross and the accounts or bonds usually carry heavy penalties for early encashment. One of the more interesting variants on offer comes from the Bristol & West. Its Save and Investment bond pays out 8 per cent gross a year by putting half the amount invested into a deposit account and the other half into a FT-SE tracker fund for five years.

It is important to remember that growth or capital bonds invest a high proportion of their money in derivatives so that they can benefit from stock market performance. They do not guarantee a full return of capital on maturity, or else offer a relatively low guaranteed growth with a top- up bonus dependent on the selected stock market index rising over the investment period.

This means that when the higher income option is chosen, should the selected stock market index show a negative performance, the investor will find that the income withdrawals will have eaten into the capital.

All investment is about risk-taking and higher income or growth bonds are no different.

With most of the world's major stock market indices at or near their all-time highs, investing in these bonds is taking a gamble that over the investment period the selected index will not show a decline.

Before investing it is important to see which index is being used to generate the income. After all, if it is not the FT-SE 100, then there is also the risk of performance being affected by changes in currency rates. Currency dealers are already claiming that, with a general election looming in the UK, there could be a period of instability in the foreign exchange markets if a Labour government is elected.

"Investors should be aware of the risk factors," says Graham Hooper of Chase de Vere Investments, the financial advisers, "and not put all their eggs in one basket. Having said that, these stock market-linked bonds do have a role to play as long as the risks are explained. If you cannot risk any of your capital, do not invest in them."

But so long as the investor is aware of the risk, reads the small print in any advertisement or promotional material, and asks a financial adviser what the risks are, then these bonds could form a part of an investment portfolio.

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