Money: Reader's Lives: How do you rate these bonds?

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I want an investment which pays out a high income. A friend has suggested building society "PIBs". Do these investments really pay a decent income? And what are the risks?

TL, Somerset

Permanent interest-bearing shares - PIBs for short - are tradeable securities issued by building societies. Some former building societies (Cheltenham & Gloucester, Halifax, Bristol & West, Northern Rock) also issued PIBs while they still had mutual status. These PIBs became technically known as perpetual subordinated bonds when the societies converted to banks.

PIBs are bought and sold through stockbrokers and are traded on the stock market. This makes them a different kind of investment from deposit-based accounts, where your capital is safe. With PIBs, there is a risk to your capital. The value of PIBs is determined by what investors are prepared to pay for them in the stock market. This market value is affected by various factors, in particular by the changing levels of interest rates. When you sell PIBs you may get back more or less than you paid.

In this way, PIBs are a similar type of investment to government-backed gilts - fixed-interest securities that pay out a fixed income twice a year, and whose value fluctuates. But PIBs differ from most gilts in one key respect - they have no maturity date when the issuing building society will buy them back.

Another important point, and one which has driven up prices in recent times, is that buyers of PIBs become members of the building society issuing them, and so are potentially in line for a windfall should the society convert or be taken over.

PIBs can offer a higher rate of interest than with deposit accounts. But the gap between PIBs and top-paying deposit accounts is not as great as it has been in the past. At present, PIBs give an income of approximately 7.7 per cent, with some paying slightly more, some slightly less. That income is fixed. But its percentage value is determined by the current market value of the PIBs. For example, a fixed annual income payment of pounds 13 on PIBs costing pounds 166.50 is equivalent to an interest rate of 7.91 per cent. If the PIBs rose in value to pounds 190, the pounds 13 would then equate to a yield of 6.9 per cent.

If interest rates were to decline, the value of PIBs would probably rise further and the percentage yield would fall. If this were to happen, someone who had bought in already could not only fix at a high interest- rate yield, but could also benefit from capital appreciation through the rising value of the PIBs. On the other hand, the opposite could happen - prices could fall, and you could end up having bought in at a relatively low fixed rate.

I lost my job a year ago. I felt obliged to sell my three-year-old PEP investment to raise funds. I arranged to pay interest-only on my mortgage. Fortunately I was able to find another job within a few months, but only now am I finally getting back on my feet financially. Do you have any thoughts on what I should do with the mortgage? Should I start another PEP or endowment policy or should I convert to a capital repayment mortgage? NT, Manchester

It is changing circumstances like these that make endowment policies such a bad buy for the majority of people. Early cash-in values are notoriously low. But without an income from employment you may not be able to continue to afford the monthly endowment policy premium. You would get no help with endowment policy premiums even if you were to qualify for income support. PEPs don't have quite the same problems of low early cash-in values. But with stock market investments it is important to have some degree of flexibility over when you cash them in. This avoids a forced sale when the stock market has fallen. Remember, too, that the capital value of your PEP could affect your entitlement to income support if you do become unemployed again.

There is a further question mark over the future of PEPs because of the planned introduction of Individual Savings Accounts (ISAs) in 1999. It is not clear what will happen to PEPs.

The advantage of the repayment-based mortgage is that you can be sure the loan will be paid off by the time the mortgage reaches the end of its term. And if you become unemployed again during the life of the mortgage, you should be able to lower your monthly payments by reverting to paying interest only.

Aren't premium bonds supposed to be just a bit of fun? Or is it true that they can form a serious part of a portfolio of savings and investments?

SW, Wirral

It's a matter of odds. The holder of the maximum pounds 20,000 might, on average, win three prizes of pounds 100 and 10 prizes of pounds 50 in a year - pounds 800 in total. That represents a return of 4 per cent. But it is a tax-free return, worth the equivalent of 5 per cent to taxpayers at the 20 per cent and basic rate bands, or 6.6 per cent to higher-rate taxpayers. So the maximum holding gives a reasonable prospect of a respectable deposit- type return plus the chance to win a substantial prize. The monthly jackpot is pounds 1m. Each premium bond number has a one in 19,000 chance of winning a prize each month. The rate of interest went up in November from 4.75 per cent to 5 per cent.

q Write to Steve Lodge, Personal Finance Editor, Independent on Sunday, 1 Canada Square, Canary Wharf, London E14 5DL, and include a phone number, or fax 0171 293 2096 or e-mail s.lodge@independent.co.uk - do not enclose SAEs or any documents you wish returned. We cannot give personal replies or guarantee to answer letters. We accept no legal responsibility for advice given.

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