Investing for Income: The trendy way tomakemoney

Corporate bond PEPs are a hit, says David Burrows

SUDDENLY the sleepy world of corporate bond PEPs is fashionable. When M&G launched its high-yield bond fund last year, many people said it would be a mistake. Yet M&G now has pounds 100m in its coffers and is paying 7.8 per cent interest, tax free.

Not surprisingly M&G now has rivals. Three other firms launched similar corporate bond funds last week. Investors can now choose high-yield funds from Schroder (estimated gross yield 7 per cent), Fidelity (7.5 per cent) and Framlington (8 per cent).

If you do not want to take a slightly higher risk for a higher return, there is also a wide range of more conservative bond funds, paying income of around 6 or 7 per cent, tax free. In a world of falling interest rates and low inflation, the corporate bond fund has come into its own. A corporate bond is basically an IOU note issued by a company.

In return for a loan the company pays out interest every year until the loan expires. Some bonds have five years to run, others 30. And the rate of interest paid out depends on how secure the company is perceived to be. A riskier company has to pay higher interest on its bonds to attract investors.

So a bond fund buys a range of corporate bonds and gives its investors a regular income, tax free. That is good news but there will be extra advantages when the rules change in April and PEPs are replaced by Individual Savings Accounts (ISAs).

Income from a corporate bond PEP will get full tax relief at the individual's higher rate of income tax. Any capital gains (though they may only be quite small) will also be tax free.

After ISAs are introduced in April, you will still be able to buy a corporate bond fund and hold it as part of your ISA portfolio, so even if you cannot make the commitment, it is not your last chance. Don't believe the doom- laden advertising.

Ian Spreadbury, senior portfolio manager (bonds) at Fidelity explains: "The performance of corporate bond Peps over the last couple of years has been extremely good. Things took a little bit of a knock from the slump in the Far East. We probably won't see the same sort of yields as two years ago but it still makes sense to buy. Interest rates have just been cut further and there is little worry over the inflation rate."

As investors lock into a fixed rate of return if interest rates go up, then bonds look less attractive because a higher rate of return can be obtained in the open market. That means less demand for bonds and prices can fall. By the same token, since bonds offer investors the return of their capital at the maturity date, if inflation spirals out of control, investors' capital sum will be eroded. So low inflation and low interest rates improve the outlook for bonds.

Andrew Jenkins, group leader (fixed income) with Fidelity, agrees that it is a good time to buy corporate bond Peps. "Our analysis shows that, over time, diversified portfolio corporate bonds out-perform government bonds," he said.

There is still heavy demand from investors. Pension provision increases weighting in bonds and as few gilts (government bonds) are being issued, companies are issuing bonds to fill the gap. It is also more tax-efficient to raise bonds relative to equities.

The new high-yield funds look to buy bonds in corporations with a lower investment rating than those acceptable in a traditional corporate bond PEP. As Mr Spreadbury explains: "These high-income bonds are one step up from equities, something of a hybrid between bonds and equities."

Tessa Murray at M&G explains why these high-yield bonds (which have been hugely successful in the US) are rapidly being made available to investors in the UK.

She said: "They have lower credit rating and higher yields. Through stringent and active management, we intend to pick the bonds that will achieve a credit rating improvement and hence a capital gain.

"The reason these bonds pay such high yields is because of a perceived risk of default. Default can just mean a bond misses one coupon (interest payment) which may be made up later."

But how likely are bonds to default? Past performance in the US shows that only 3 per cent have defaulted.

"We are convinced that investors in this new market are hugely over-compensated for perceived risks that are not borne out by reality," Ms Murray commented.

Contacts: Fidelity, 0800 414171; Framlington, 0345 775511; M&G, 0800 390390; Schroder, 0800 002000.

PROMOTED VIDEO
Arts and Entertainment
On set of the Secret Cinema's Back to the Future event
filmBut why were Back to the Future screenings cancelled?
News
Susan Sarandon described David Bowie as
peopleSusan Sarandon reveals more on her David Bowie romance
Sport
Lewis Hamilton walks back to the pit lane with his Mercedes burning in the background
Formula 1
Arts and Entertainment
The new characters were announced yesterday at San Diego Comic Con
comic-con 2014
Sport
Arsenal supporters gather for a recent ‘fan party’ in New Jersey
football
News
ebookA unique anthology of reporting and analysis of a crucial period of history
Arts and Entertainment
No Devotion's Geoff Rickly and Stuart Richardson
musicReview: No Devotion, O2 Academy Islington, London
News
i100
News
newsComedy club forced to apologise as maggots eating a dead pigeon fall out of air-conditioning
Life and Style
Balmain's autumn/winter 2014 campaign, shot by Mario Sorrenti and featuring Binx Walton, Cara Delevingne, Jourdan Dunn, Ysaunny Brito, Issa Lish and Kayla Scott
fashionHow Olivier Rousteing is revitalising the house of Balmain
News
i100
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.

iJobs Job Widget
iJobs Money & Business

Senior Risk Manager - Banking - London - £650

£600 - £650 per day: Orgtel: Conduct Risk Liaison Manager - Banking - London -...

The benefits of being in Recruitment at SThree...

£18000 - £23000 per annum + Comission: SThree: SThree, International Recruitme...

Test Analyst - UAT - Credit Risk

£280 - £300 per day + competitive: Orgtel: Test Analyst, Edinburgh, Credit Ris...

Trainee Recruitment Consultants - Banking & Finance

£20000 - £25000 per annum + OTE £40,000: SThree: SThree Group have been well e...

Day In a Page

Best comedians: How the professionals go about their funny business, from Sarah Millican to Marcus Brigstocke

Best comedians: How the professionals go about their funny business

For all those wanting to know how stand-ups keep standing, here are some of the best moments
Jokes on Hollywood: 'With comedy film audiences shrinking, it’s time to move on'

Jokes on Hollywood

With comedy film audiences shrinking, it’s time to move on
Edinburgh Fringe 2014: The comedy highlights, from Bridget Christie to Jack Dee

Edinburgh Fringe 2014

The comedy highlights, from Bridget Christie to Jack Dee
Evan Davis: The BBC’s wolf in sheep’s clothing to take over at Newsnight

The BBC’s wolf in sheep’s clothing

What will Evan Davis be like on Newsnight?
Finding the names for America’s shame: What happens to the immigrants crossing the US-Mexico border without documents who never make it past the Arizona desert?

Finding the names for America’s shame

The immigrants crossing the US-Mexico border without documents who never make it past the Arizona desert
Inside a church for Born Again Christians: Speaking to God in a Manchester multiplex

Inside a church for Born Again Christians

As Britain's Anglican church struggles to establish its modern identity, one branch of Christianity is booming
Rihanna, Kim Kardashian and me: How Olivier Rousteing is revitalising the house of Balmain

Olivier Rousteing is revitalising the house of Balmain

Parisian couturier Pierre Balmain made his name dressing the mid-century jet set. Today, Olivier Rousteing – heir to the house Pierre built – is celebrating their 21st-century equivalents. The result? Nothing short of Balmania
Cancer, cardiac arrest, HIV and homelessness - and he's only 39

Incredible survival story of David Tovey

Tovey went from cooking for the Queen to rifling through bins for his supper. His is a startling story of endurance against the odds – and of a social safety net failing at every turn
Backhanders, bribery and abuses of power have soared in China as economy surges

Bribery and abuses of power soar in China

The bribery is fuelled by the surge in China's economy but the rules of corruption are subtle and unspoken, finds Evan Osnos, as he learns the dark arts from a master
Commonwealth Games 2014: Highland terriers stole the show at the opening ceremony

Highland terriers steal the show at opening ceremony

Gillian Orr explores why a dog loved by film stars and presidents is finally having its day
German art world rocked as artists use renowned fat sculpture to distil schnapps

Brewing the fat from artwork angers widow of sculptor

Part of Joseph Beuys' 1982 sculpture 'Fettecke' used to distil schnapps
BBC's The Secret History of Our Streets reveals a fascinating window into Britain's past

BBC takes viewers back down memory lane

The Secret History of Our Streets, which returns with three films looking at Scottish streets, is the inverse of Benefits Street - delivering warmth instead of cynicism
Joe, film review: Nicolas Cage delivers an astonishing performance in low budget drama

Nicolas Cage shines in low-budget drama Joe

Cage plays an ex-con in David Gordon Green's independent drama, which has been adapted from a novel by Larry Brown
How to make your own gourmet ice lollies, granitas, slushy cocktails and frozen yoghurt

Make your own ice lollies and frozen yoghurt

Think outside the cool box for this summer's tempting frozen treats
Ford Fiesta is UK's most popular car of all-time, with sales topping 4.1 million since 1976

Fiesta is UK's most popular car of all-time

Sales have topped 4.1 million since 1976. To celebrate this milestone, four Independent writers recall their Fiestas with pride