A sugar-coated deal that failed to tempt investors

Why have bond PEPs attracted so little interest? By Neil Baker

The investment industry put its marketing machine into overdrive last year when the Government gave the go-ahead for tax-efficient Personal Equity Plans to invest in corporate bonds, convertibles and preference shares. Unlike shares, which pay a variable dividend, bonds pay a fixed dividend each year like a government stock, but the yield on a bond is usually 1-2 per cent higher.

The investment industry hoped that putting those products inside the tax-free wrapper of a PEP would attract investors looking for a higher return than they could get down at the building society, and who wanted a long-term investment that would help to pay off the mortgage or the school fees, but who didn't fancy the risk of investing in shares.

But the take-up of products launched so far has been patchy and the amount invested in corporate bond PEPs so far adds up to just pounds 1.3bn, compared to pounds 5.7bn in general PEPs in 1993-94, according to the trade body Autif. The average gross return on the corporate bond PEPs launched a year ago is 10-11 per cent net of tax - which means that even if they are taking income, most early investors have already covered their start-up costs which will have been 7-8 per cent of the investment on average. But performance has been overshadowed by equity-based PEPs.

"There is a growing awareness of corporate bond PEPs and they are growing in popularity, but they are still not as popular as the industry thought they would be," says Colin Jackson of the independent financial advisers Baronworth Investment Services. "They were hyped to start with and everybody had great expectations, but the reality is that clients have to like it."

Ian Millward of the independent advisers Chase de Vere says that bond PEPs have become more popular in recent months, but that the trend is short-term and mostly a result of the large amount of Tessa money slushing around the investment market.

"People have avoided going overboard on them," he says. "In the past when there has been a new investment vehicle, there has been a lot of shouting from the rooftops and people have invested without really understanding what is involved. It seems that with corporate bond PEPs, the industry and individual investors have been a bit more restrained. If you are looking for high income and no growth, that is fine, but if you are looking for capital growth or rising income, you are better off in an equity-based investment."

Colin Jackson says that the ideal bond PEP investor is in late middle- age, wants more than the building society can offer, knows that yields on bonds are not guaranteed and doesn't already have a regular equity PEP. "That's quite a tall order. Most older investors who are looking for income or yield want a guarantee and they want something very simple. One of the big problems is that investors see a headline rate of 8 or 9 per cent, and they assume that is the yield they are going to get. It is only when they discuss it with someone that they realise that, with a few exceptions, it is not a guaranteed yield. I think that really has put a lot of people off."

Mr Millward agrees that bond PEPs are suitable for some investors. "They do have their place, but they are not the big solution to every building society investor who are not happy with the return on their money." But he warns: "The fear is now that if interest rates start to rise - which is not really an issue now, but could well be over the next five years - that will have an adverse effect on the capital value of the bonds."

Investors considering a bond PEP need to consider what level of return can be expected, how much risk the PEP manager is taking to get that return, and what sort of track record the PEP manager has with company bonds, as opposed to equities - some have limited experience.

To complicate matters, the PEP providers can quote different rates of return. There is a key difference between the current or distribution yield, which is how much your PEP is likely to actually pay out, and the yield to redemption, which is the likely total return on your investment and includes any gain or loss on your initial capital. "Yield to redemption is the real figure; the rest of it can be manipulated," says one expert.

One particular factor that affects the yield is how the manager deducts the fees charged for setting up, and then looking after, the PEP. These can be charged against your annual income or your capital. With an income- producing investment such as a bond PEP, it is important to realise that charges taken from capital will gradually erode the base of your investment.

It is always important to consider all the different charges together. In general, you should expect to pay an initial charge totalling around 3 per cent of the money you invest and then an annual charge of about 1 per cent. If there is no initial charge, check whether there is a "back- end" penalty charge when you come to sell your PEP. On top of that, there will be commission to pay if you use an independent financial adviser to track down a PEP for you. A typical commission is 3 per cent, although some IFAs will give part of this back.

This week's highest-yielding bond PEP is from Abtrust Unit Trust Managers. Its investment strategy - graded medium risk by Baronworth Investment Services - generates a running yield of 9.24 per cent and a redemption yield of 10.1 per cent. PEPS with a lower yield but guaranteed return are also available - the Johnson Fry Secured Corporate Bond High Income PEP currently offers investors a guaranteed 6.75 per cent per annum together with guaranteed return of capital at the end of five years.

Independent Partners; Do you need financial advice on your investments, pension or insurance? Book a free consultation with an independent Financial Adviser at VouchedFor.co.uk

PROMOTED VIDEO
Finacial products from our partners
Property search
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

ES Rentals

    iJobs Job Widget
    iJobs Money & Business

    Recruitment Genius: Software Development Manager

    £40000 - £50000 per annum: Recruitment Genius: This is an exciting opportunity...

    Ashdown Group: Product Manager - (Product Marketing, Financial Services)

    £30000 - £35000 per annum + Benefits: Ashdown Group: Marketing Manager - Marke...

    Recruitment Genius: Compliance Assistant

    £13000 per annum: Recruitment Genius: This Pension Specialist was established ...

    Ashdown Group: Market Research Executive

    £23000 - £26000 per annum + Benefits: Ashdown Group: Market Research Executive...

    Day In a Page

    Isis hostage crisis: The prisoner swap has only one purpose for the militants - recognition its Islamic State exists and that foreign nations acknowledge its power

    Isis hostage crisis

    The prisoner swap has only one purpose for the militants - recognition its Islamic State exists and that foreign nations acknowledge its power, says Robert Fisk
    Missing salvage expert who found $50m of sunken treasure before disappearing, tracked down at last

    The runaway buccaneers and the ship full of gold

    Salvage expert Tommy Thompson found sunken treasure worth millions. Then he vanished... until now
    Homeless Veterans appeal: ‘If you’re hard on the world you are hard on yourself’

    Homeless Veterans appeal: ‘If you’re hard on the world you are hard on yourself’

    Maverick artist Grayson Perry backs our campaign
    Assisted Dying Bill: I want to be able to decide about my own death - I want to have control of my life

    Assisted Dying Bill: 'I want control of my life'

    This week the Assisted Dying Bill is debated in the Lords. Virginia Ironside, who has already made plans for her own self-deliverance, argues that it's time we allowed people a humane, compassionate death
    Move over, kale - cabbage is the new rising star

    Cabbage is king again

    Sophie Morris banishes thoughts of soggy school dinners and turns over a new leaf
    11 best winter skin treats

    Give your moisturiser a helping hand: 11 best winter skin treats

    Get an extra boost of nourishment from one of these hard-working products
    Paul Scholes column: The more Jose Mourinho attempts to influence match officials, the more they are likely to ignore him

    Paul Scholes column

    The more Jose Mourinho attempts to influence match officials, the more they are likely to ignore him
    Frank Warren column: No cigar, but pots of money: here come the Cubans

    Frank Warren's Ringside

    No cigar, but pots of money: here come the Cubans
    Isis hostage crisis: Militant group stands strong as its numerous enemies fail to find a common plan to defeat it

    Isis stands strong as its numerous enemies fail to find a common plan to defeat it

    The jihadis are being squeezed militarily and economically, but there is no sign of an implosion, says Patrick Cockburn
    Virtual reality thrusts viewers into the frontline of global events - and puts film-goers at the heart of the action

    Virtual reality: Seeing is believing

    Virtual reality thrusts viewers into the frontline of global events - and puts film-goers at the heart of the action
    Homeless Veterans appeal: MP says Coalition ‘not doing enough’

    Homeless Veterans appeal

    MP says Coalition ‘not doing enough’ to help
    Larry David, Steve Coogan and other comedians share stories of depression in new documentary

    Comedians share stories of depression

    The director of the new documentary, Kevin Pollak, tells Jessica Barrett how he got them to talk
    Has The Archers lost the plot with it's spicy storylines?

    Has The Archers lost the plot?

    A growing number of listeners are voicing their discontent over the rural soap's spicy storylines; so loudly that even the BBC's director-general seems worried, says Simon Kelner
    English Heritage adds 14 post-war office buildings to its protected lists

    14 office buildings added to protected lists

    Christopher Beanland explores the underrated appeal of these palaces of pen-pushing
    Human skull discovery in Israel proves humans lived side-by-side with Neanderthals

    Human skull discovery in Israel proves humans lived side-by-side with Neanderthals

    Scientists unearthed the cranial fragments from Manot Cave in West Galilee