Money: Investing for income - A guarantee you can't rely on
He says consumers are confused by the range of guaranteed bonds being offered, where the actual guarantees are not always what they might seem. The culprits are the high-income bonds and guaranteed equity bonds where only the income is guaranteed. The saver's capital - the cash invested - can be very much at risk.
Investors attracted by the idea of a guarantee are likely to be shocked if they discover that their savings could have shrunk by the end of the bond's term.
It is important to draw a distinction between traditional guaranteed income bonds (GIBs) and the more recent stock market-linked bonds. A guaranteed income bond is an investment for a fixed period with a guaranteed return. Investors can choose to draw the income monthly, or let it accumulate and take it all as a lump sum at the end of the agreed term, which can be anything from one to five years. At the end of the period, your original money is also guaranteed.
There are a small number of companies which compete in the GIBs market. Typically they offer better returns than the normal building society deposit rates for taxpayers. Mostly insurance companies, they offer GIBs for a limited period.
A sample of recent rates available includes 5 per cent over three years for pounds 10,000 from Black Horse Financial Services, 6.05 per cent over one year for pounds 3,000 from Pinnacle Insurance, and 5.6 per cent over five years for pounds 5,000 from Woolwich Life. Importantly, all rates quoted are net of basic-rate tax, so they should not be compared directly with the gross rates quoted on most deposit accounts.
"Guaranteed income bonds are simple, straightforward products and make sense for many taxpayers, and more so for higher-rate taxpayers," says Mr Dennehy. "High-income bonds are a completely different product, though the public seems to have a problem in making this distinction, and that concerns me and many others in the financial services industry."
Essentially, a typical high-income bond will offer guaranteed income of around 10 per cent a year for an investment period of five years. What is often not made clear is that the return of capital at the end of five years depends on the performance of certain stock market indices, which may not even be UK ones. If an index falls over the five-year term, you will not get back all your capital, and may only receive just 50 per cent.
"Some say the odds of this happening are very small," says Mr Dennehy. "More objective analysts have put the odds at one in five. But my gut feeling is that the odds are worse than that. Despite representations to the regulators, I don't believe the marketing material on these products makes clear that they carry any risk and just what the extent of these risks are to capital. That's why I feel there's a potential scandal in the making."
The problem with these stock market-linked bonds is the perceived misuse of the word "guaranteed". With high-income bonds, what is actually generally guaranteed is the income. This will be paid out at the expense of capital if the underlying stock market index fails to perform as anticipated. So if a bond offered a 10 per cent income and the FT-SE 100 index, for instance, only rose by 4 per cent, the outstanding amount needed to meet the monthly income payment would in effect be withdrawn from your original investment. Consistent underperformance by the index would lead to more demands on your capital until it was severely eroded. The result would then be that you achieved the desired high income, but only got back part of your original investment at the end of the bond's life.
The high-income bond providers point out, in their defence, that adding together the capital returned to you and the income paid out will mean that you won't have actually lost out in absolute cash terms. But following this argument means you may as well keep the cash in your pocket and draw on it as needed - the end result will be exactly the same.
Don't let these criticisms put you off traditional guaranteed bonds if it's income you are after. For the best GIB rates, see our Best Savings Rates table on page 12.
Sales of the tablet are set to fall again, say analysts
Met Police confirm there was a 'minor disturbance' and that no-one was arrested
George Lucas criticises the major Hollywood film studios
Does Chris Grayling realise what a vague concept he is dealing with?
Trend which requires crisps, a fork and a strong stomach is sweeping Mexico's streets
Parties threaten resort's image as a family destination
I Am Bread could actually be a challenging and nuanced title
17 October 2014 07:08 PM
Going down the wrong road: parking fines are nudging people into debt difficulties
17 October 2014 07:58 PM
Stacks of income: Drax is among the companies in Neil Woodford’s portfolio that he believes will pay strong dividends
17 October 2014 07:23 PM
Don't panic, it’s a wise idea to check investments regularly to ensure they are on target for your hoped-for returns
17 October 2014 08:18 PM
With little or no wage growth being seen in the UK, increasing house-price inflation could see the number of first-time buyers slide further, unless there’s a new accelerated house building programme
17 October 2014 07:19 PM
You should ignore the headline offers and trickery and work out the total cost of borrowing under different deals
17 October 2014 07:24 PM
Denise Leigh, who appeared in a production of Rigoletto with Alan Opie, was left without an essential service
10 October 2014 06:13 PM
A charity has calculated the cost to us all of unmanageable debt – from lost productivity to the extra demands on the NHS
10 October 2014 06:36 PM
The regulators are at last tackling the high-profile payday lenders, but they appear to be ignoring the growing problem of internet loan firms
10 October 2014 06:35 PM
As the cold weather hits, the question of soaring bills will be felt by each of us at home
10 October 2014 06:55 PM
Nikki Galloway (above) sells jewellery via her own website as well as on Facebook, Amazon and Bouf
10 October 2014 07:17 PM
Queenstown on Lake Wakatipu in New Zealand. The country’s stock market was boosted last month on John Key’s re-election
10 October 2014 07:29 PM
Royal Mail is cutting its small parcel charges from 20 October
03 October 2014 07:08 PM
Anyone who moved to countries including Australia, Canada, South Africa and a 100 other places, have had their pensions frozen at the rate it was paid at when they left the country
03 October 2014 06:52 PM
Every fund has good years and bad, but consistent underperformance over a number of years points to something more fundamental
03 October 2014 07:38 PM
Nick Train thinks luxury fashion brand Burberry is one of the companies that has prospered in digital marketing
Mark Dampier: Woodford’s young companies could be the stars of the future
Money Insider: Help to Buy must be boosted by building
Weekly Money: Round-up of the personal finance stories you may have missed 13-17 October
The opera singer, the broadband delay and why customers aren’t divas if they expect a good service
How to start your own internet business
- 1 Indian footballer Peter Biaksangzuala dies after injuring spine doing somersault celebration
- 2 Jack the Ripper: Scientist who claims to have identified notorious killer has 'made serious DNA error'
- 3 Banksy arrest hoax: Internet duped by fake report claiming that the street artist's identity has been revealed
- 4 Drink alcohol and eat meat to improve male fertility - but cut down on coffee, studies suggest
- 5 Brian Harvey turns up at Downing Street and 'demands to speak to Prime Minister'
Cameron is warned 'no possibility' of UK reducing immigration and that bid to bring in quota on migrant workers would be illegal
Sorry Judy Finnigan – Ched Evans is no less sickening than an alleyway rapist
Residents should throw a street party and mix with immigrant neighbours, councils told
Workers 'could be forced to pay £5 a week' to get benefits
Russell Brand threatened with arrest after filming outside Fox News headquarters
London bus driver allegedly kicks gay couple off for kissing
iJobs Money & Business
£18 - 23k + Benefits: Guru Careers: We are seeking a Customer Service Executiv...
£60 - 65k + Benefits: Guru Careers: We are seeking a ASP.NET Web Developer / ....
£60,000 - £80,000: Saxton Leigh: Our client is an leading Asset Manager based...
£27000 - £32000 Per Annum: Clearwater People Solutions Ltd: Our large charity ...
Day In a Page
This 17th century beauty is full of rustic cosiness, while the detached home office means you can also run a business
This five-bedroom red-brick beauty overlooks the village green and sits in just under two acres of land
Four exclusive apartments in a Grade II-listed former medical school with 2,275 sq ft of living space and 18ft ceilings
A five-bedroom terraced house on the popular Peterborough Estate, ideally located for both Eel Brook Common and South Park
A state-of-the-art farm-building conversion on the former Cliveden Estate, with 11,420sq ft of internal space, cinema and wine cellar
A three-bedroom, 15th-century cottage with original features in the picturesque village of Sissinghurst
A six-bedroom terraced house with large south-facing roof terrace, cinema room and wine cellar
A new seven-bedroom home built in Queen Anne-style with swimming pool and parkland views in Mortimer
A listed, four-bedroom farmhouse in the rural hamlet of Rushall with detached barn, four acres of gardens and paddocks
A first-floor flat with two bedrooms, a spacious reception room and communal grounds in a leafy part of London
A three-bedroom flat with a spacious rootop terrace and balcony, accessed from a private gated courtyard
A Grade II-listed pile with six bedrooms, stables and 39 acres of grounds in Standlake
A two-bedroom flat with boutique hotel-style interiors, close to the foodie haunt of West End Lane
A two-bedroom flat in a beautiful old vicarage, with many original features, close to the city centre
A three-bedroom 16th-century home with an aga kitchen, private gardens and heated outdoor pool, in Hadleigh
A three-bedrom home in sought-after Queen's Gate Mews, with Italian marble-finished bathrooms
Surrounded by glorious countryside in the village of Udimore, sits this impressive four-kiln oast and barn conversion
A five-bedroom house in the picturesque village of Kettlewell, north Yorkshire
An 18th-century former coaching inn with original staircase, open fireplaces and beams throughout
A Grade II-listed Georgian town house with three bedrooms and a south-facing courtyard, near Arundel Castle
Feel on top of the world at this über chic penthouse on the 37th floor of one of Europe’s tallest blocks.
A Grade II-listed Victorian villa with six bedrooms and two further cottages, all with spectacular sea views
A grade II-listed, Georgian cottage with mature 50ft garden, perfect for summer entertaining
A magnificent Georgian pile with turrets, seven bedrooms, a heated pool and four acres of gardens
Fairoak Farm has five bedroom suites, gym, outdoor swimming pool and golf course
Chic two-bedroom river-fronted flat with a private lift that delivers you directly to your home
A spectacular seven-bedroom Tudor pile, once owned by Henry VIII, with 18 acres of land
A seven-bedroom Georgian property previously used as a picturesque wedding venue
A split-level flat in a church conversion with two en suite bedrooms and 1,200sq ft of living space
A three-bedroom bungalow situated behind an impressive stone wall, £645,000
Windsor Castle overlooks this three-bedroom Victorian cottage located on one of Windsor's smartest roads
Chapel House is a former vicarage with nine bedrooms in the beautiful Upper Wye Valley
A five-bedroom B&B and separate owner's accomodation with potential for conversion
Enjoy summer by the Thames in this two double-bedroom converted warehouse in Rotherhithe village
A one-bedroom, luxury apartment with private gym and concierge service in Moorgate
A four-bedroom house in Hermitage Gardens with three reception rooms and landscaped gardens
A seven-bedroom Grade II-listed property with a separate self-contained apartment
A five-bedroom Victorian house with three reception rooms and galleried landing, £695,000
A six-bedroom farmhouse with five acres of land in a former cloth-making village