Whilst investors continue to seek new ways to generate a predictable and regular income stream from their capital, it is perhaps understandable why the combination of a high level of fixed income and regular payments, along with some capital protection against a falling stock market, have become so popular. With last year’s significant increase to the ISA allowance these have also been popular with ISA investors. We therefore compare two of our best selling income investments to help understand what is driving their popularity and why they might meet your income needs.
An all too familiar picture
Despite the recent hints by the governor of the Bank of England, Mark Carney, that we may well see an interest rate rise by the end of the year, both savers and investors will not be fooled about any short term impact this could have as they continue to face the harsh reality of record low interest rates and historically low savings rates. And perhaps those who have suffered more than most are those seeking income from their capital.
Fixed income proving popular
Against this difficult economic landscape, not only have fixed income investments been one of the real success stories in recent years, but this interest continues to rise as the needs and demands put on more of us from our capital fails to be met by traditional products, which often have variable and less predictable income. By combining a high fixed income with some capital protection conditional on the performance of the stock market, these plans offer a compelling balance of risk versus reward that is not commonly available elsewhere in the world of retail investments.
Head to head
Here we compare two of our most popular fixed income investments currently on offer, both of which offer a high level of fixed income. The Enhanced Income Plan from Investec offers 5.40% fixed income, whilst the 4 Year FTSE 4 Monthly Income Plan from Meteor offers a higher fixed income at 7.32% each year. Both plans put your capital at risk, the Investec plan if the FTSE 100 Index falls by more than 50% and the Meteor plan should any one of four FTSE 100 listed shares fall by more than 50%. This is known as conditional capital protection and is one of the plans’ main differentiators when compared to other types of high yield investments such as investment funds.
Another major difference between these plans and other types of income investments is that both pay a fixed income. This means that you receive your income regardless of the performance of the stock market, so the investor has the certainty of knowing at the outset exactly how much he will receive each and every year. Investment funds on the other hand usually offer a variable income based on the performance of the underlying investment, and so can up and down over time.
Another important feature of income investments is how often income is paid out. The most common payment frequencies are bi-annually, quarterly and monthly with the more regular frequencies usually being the most popular, especially for those looking to supplement existing income or to boost retirement income from their capital.
Both investments pay income monthly, which can often be the most useful in terms of budgeting and is attractive when looking to supplement existing income or boost retirement income from your capital. Investec offers a monthly income of 0.45% (equivalent to 5.40% per year) whilst Meteor’s plan pays 0.61% each month, equivalent to 7.32% per year.
Both plans have a fixed term, six years for the Enhanced Income Plan whilst Meteor’s plan has a shorter term of four years. Although you do have the option to withdraw your money early (and in this respect is not dissimilar to investment funds), both investments are designed to be held for the full term and early withdrawal could result in you getting back less than you originally invested. Equally, it could involve you receiving more depending on market conditions at the time.
The fixed term may appeal to those who wish to plan around this and combined with a fixed monthly income, provides investors with a clear picture of exactly how much will be paid, when, and for how long. In the current economic and investment climate, either plan could be seen as a viable option.
Conditional capital protection
When considering any investment it is important to understand the balance of risk v reward. Inevitably, the opportunity to receive higher fixed returns than might be available from cash deposits, requires the investor to put their capital at risk.
Another feature of these two investments is what is known as conditional capital protection. This means that the return of your initial investment is conditional on the performance of the underlying investment. For the Investec plan, this is based on the performance of the FTSE 100 Index and provided the FTSE does not fall by more than 50% of its starting value throughout the investment term, investors will receive a full return of their original investment. However, if it does fall below 50%, and also finishes lower than its value at the start of the plan, your initial investment will be reduced by 1% for every 1% fall.
As a trade of for the higher level of fixed income on offer from the Meteor FTSE 4 Monthly Income Plan, the return of investor’s capital is based on the performance of four shares listed on the FTSE 100 Index, rather than the Index itself. If the value of the lowest performing share is less than 50% of its value at the start of the plan, your initial capital will be reduced by 1% for each 1% fall. This is measured on the final day of the investment only.
With both investments you could therefore lose some or all of your initial investment.
Since both investments pay income regardless of the performance of the stock market, the risk to your capital in each is one of the main differences between the two plans.
Risk versus reward
The principle of risk v reward means that the search for potentially higher returns leads to the need to put your capital at risk. A good benchmark for assessing your investment is to compare what you could get from a fixed rate deposit over a similar timeframe and then consider whether you are comfortable with the risk to capital you are taking in order to receive a higher fixed return.
Leading five year fixed rates are currently offering a little over 3.0% and so by accepting risk to your capital, the Investec plan increases your fixed return by around 2.4% a year while the Meteor plan offers around 4.3% more fixed income each year. With the market failing to meet the need for higher levels of fixed income the decision is whether you are comfortable with putting your capital at risk and the conditional capital protection offered in return for the higher fixed returns on offer.
Credit ratings and agencies
Unlike a fund, your investment is used to purchase securities issued by Investec Bank plc and Commerzbank AG (Meteor plan) and therefore, their ability to meet financial obligations becomes an important consideration. This is known as credit risk and means that in the event of either company going into liquidation, you could lose any future returns as well as some or all of your initial investment and these investments are not covered by the Financial Services Compensation Scheme for default alone.
One accepted method of determining credit worthiness of a company is to look at credit ratings that are issued and regularly reviewed by independent companies known as ratings agencies. Fitch is a leading credit agency and as at 19th June 2015, Investec has a BBB- rating with a stable outlook while Commerzbank AG has a BBB rating with a positive outlook. The ‘BBB’ rating signifies both institutions are considered medium grade and as such may possess certain speculative characteristics whilst the ‘-‘ denotes Investec is at the lower end of this particular rating grade. A stable outlook indicates the rating is not likely to change in the short to medium term (around 6 months to 2 years) whilst the positive outlook indicates it could change over this same timeframe.
Investec is an international specialist bank and asset manager with its main operations in the UK and South Africa. Established in 1974, as at April 2015 they look after £124.1 billion of customer assets as well as a further £22.6 billion of customer deposits and employ around 8,250 people. They specialise in a number of areas, particularly within the banking sector and are a leading provider of investment plans and structured deposits in the UK.
Commerzbank AG is the second largest high street bank in Germany with nearly 15 million individual customers and 1 million business and corporate clients. The bank opened its first branch in London in 1973 and in 2013 generated global revenues of approximately €10 billion with approximately 54,000 employees. Commerzbank AG is active in the structured investments and has over 170,000 investment products for retail, institutional and private investors currently in issue.
Fair Investment conclusion
The market for income investments is full of attractive yields but it is important to fully understand how each investment works and the risks it entails. Whether this is inflation risk, risk of capital loss or fluctuating yields, it should always be remembered that it is the income and capital loss/rise combined that produce your overall return.
Commenting on the two investments, head of savings and investments at Fair Investment Company Oliver Roylance-Smith said: “By combing a high level of fixed income, monthly payments and a return of capital unless the FSTE falls by more than 50%, Investec’s Enhanced Income Plan offers a compelling balance of risk versus reward and is one of our most popular income investments that could be considered by investors and savers prepared to accept risk to their capital”.
He continued: “By comparison, the four year term and significantly greater monthly yield from Meteor’s offering, along with the marginally stronger counterparty credit rating, may well appeal to those in search of a high level of fixed and regular income. However, the fact that the return of your initial capital is based on the performance of four shares rather than the Index as a whole does make this a higher risk investment.”
Should you consider the need to move some of your capital into investments or are considering additional investments or ISA transfers, either plan could be a compelling opportunity for a competitive level of fixed income while offering your initial capital some protection against a falling market.
Both plans are available as new ISAs, ISA transfers and non-ISA investments.
No news, feature article or comment should be seen as a personal recommendation to invest. Prior to making any decision to invest, you should ensure that you are familiar with the risks associated with a particular investment. If you are at all unsure of the suitability of a particular investment, both in respect of its objectives and its risk profile, you should seek independent financial advice. Tax treatment depends on your individual circumstances and is based on current law which may be subject to change in the future. Always remember to check whether any charges apply before transferring an ISA.
These are structured investment plans which are not capital protected and are not covered by the Financial Services Compensation Scheme (FSCS) for default alone. There is a risk of losing some or all of your initial investment. There is a risk that the company backing the plan or any company associated with the plan may be unable to repay your initial investment and any returns stated. In addition, you may not get back the full amount of your initial investment if the plan is not held for the full term. The past performance of the FTSE 100 Index or any shares listed within the Index is not a guide to their future performance.
The level of interest available on fixed rate bonds has risen slightly in recent months and with the talk of future interest rate rises firmly on the agenda, things could start to look better than they have done for quite some time. Here’s a roundup of the best deals we have currently on offer. We also include a couple of alternatives to traditional fixed rate bonds, which could be a option for those who would normally have chosen to lock their cash away for at least a few years and are available to both individuals and businesses, as well as charities and trusts.
Short term fixed rate bonds
For those looking for a short term fixed rate, Aldermore Bank currently offers a 1 Year Fixed Rate Account offering 2.00% gross/AER requiring a minimum deposit of just £1,000. No withdrawals are permitted during the term of the bond but it does have a monthly interest option.
Access Bank UK offers a market leading rate of 2.38% AER on their 2 Year Fixed Term Savings Bond however no additional deposit or withdrawals are permitted and interest, although calculated daily, is only paid at maturity. The minimum opening balance is £5,000. For those looking for a monthly interest option, Aldermore Bank’s 2 Year Fixed Rate Account pays 2.35% AER with a lower minimum of £1,000.
Medium term fixed rates
In the three to four year space, our top deal comes from Vanquis Bank offering 2.61% AER with their 4 Year Fixed rate Bond for those with between £1,000 and £250,000 to invest. This account has annual or monthly interest option but no withdrawals are permitted during the term. Leading our tables over three years is UBL’s 3 Year Fixed Term Deposit offering 2.50% AER. The minimum deposit is £2,000 and interest can be paid monthly, annually or at maturity into a UK bank account in your name.
Longer term fixed rate bonds
You still receive higher savings rates in return for locking your money away for longer, and so for those prepared to commit their savings for five years, UBL’s 5 Year Fixed Term Deposit is paying 3.04% AER. The minimum deposit is £2,000 and interest can be paid monthly, annually or at maturity into a UK bank account in your name.
This time last year…
Compared to our best one year fixed rate, UBL’s 5 year fixed rate equates to an additional 1.04% each year and an additional 0.54% when compared to their 3 year fixed term deposit. So although the market for fixed rates looking slightly more healthy than it did a few months ago, they are still pretty much exactly where they were this time last year.
Fixed rate bond alternatives
A structured deposit plan could offer an alternative to traditional fixed rate bonds. These plans combine capital protection with the potential to receive higher rates than available from fixed rate bonds and generally range from 3 to 6 years in duration, although some offer the opportunity to mature early or ‘kick out’.
The main difference between the two is that your return is normally dependent on the future performance of an index, typically the FTSE 100, and if the performance is not as required, you will only receive your capital back and no return. This is the trade off for the potential to receive higher returns.
Investec has recently launched their 4 Year Deposit Plan which offers a fixed return of 17% if the FTSE 100 finishes higher at the end of the term than it’s starting value. The upside is that the potential return equates to around 3.55% per year compound after charges, which is considerably higher than the best fixed rate deposits on offer. The downside is the rate is not fixed and if the FTSE ends lower, you only get your initial capital back and so would have been better off with a fixed rate.
The ability to mature early is a feature which is unique to structured products. Also available from Investec is their FTSE 100 Kick-Out Deposit Plan which offers a potential 4.5% per annum for each year the plan has been in force and will mature early at the end of each year (from year 3 onwards) provided the FTSE 100 Index finishes the year higher than it’s starting value.
Finally, for those who are happy to link their return to the stock market but who are not convinced the market will rise in the medium to longer term, Investec’s 6 Year Defensive Deposit Plan offers a fixed return of 34% even if the FTSE has fallen up to 10% between the start of the plan and its value at the end of the six year term (subject to averaging).
The minimum deposit for all three plans is £3,000. All are also available as Cash ISAs and accept ISA transfers. Arrangement fees apply.
No news, feature or comment should be seen as a personal recommendation to invest. If you are at all unsure of the suitability of this type of investment, both in respect of its objectives and its risk profile, you should seek independent financial advice.
Structured deposit plans are capital protected. There is a risk that the company backing the plan or any company associated with the plan may be unable to repay your initial investment and any returns stated. In this event you may be entitled to compensation from the Financial Services Compensation Scheme (FSCS), depending on your individual circumstances. In addition, you may not get back the full amount of your initial investment if the plan is not held for the full term. The returns from structured deposits are not guaranteed. The past performance of the FTSE 100 Index and any companies listed on the FTSE 100 Index is not a guide to future performance.
Tax treatment of ISAs depends on individual circumstances and may be subject to change in the future.
AER stands for the Annual Equivalent Rate and illustrates what the interest rate would be if interest was paid and compounded once each year.
Fixed term investment plans that have the ability to mature early or ‘kick out’ each year seem to be popular whatever the market conditions but particularly so when the FTSE is at historically high levels. The Enhanced Kick Out Plan from Investec currently offers the highest rate of any kick out investment based on the FTSE 100 Index which helps to explain why this plan is proving so popular both with our existing customers as well as new investors. We take a closer look at the plan and review the risk versus reward on offer to see how this might make for an attractive opportunity in the current investment climate.
Investors looking to gain a broad exposure to the UK stock market often look to investments linked to the performance of the FTSE 100 Index. But despite its recent dips, the Index continues at what are historically high levels, and so many investors find it difficult to decide whether now is the right time to invest or not.
Investors considering their options are often split down the middle – on the one side are those who feel confident that the Index can break through the 7,000 point barrier again and keep going, and then there are those on the other side who remain uncertain that the market will continue to rise.
The FTSE 100 Enhanced Kick Out Plan from Investec continues to be popular with both existing customers and new investors. Many of our existing customers have investments that have matured recently or are likely to mature early in the coming months, thereby providing them with the opportunity to consider new investment opportunities and many have considered this plan. For new investors, the headline rate of 10% is also proving a compelling opportunity in the current investment climate and has been particularly popular with those using their £15,240 New ISA allowance – so how does the investment work?
In a nutshell
The plan will return 10% per year (not compounded) provided the value of the Index at the end of each year is higher than its value at the start of the plan – so although the FTSE does have to rise, this only needs to be by a single point. Your initial capital is at risk if the Index falls by more than 50% during the term and also finishes below its starting value, in which case your capital will be reduced by 1% for each 1% fall.
The term ‘kick out’ refers to the ability of the investment plan to mature early depending on the movement of the FTSE 100 Index. Plans that have the ability to mature early and provide a competitive return on your capital have proved popular with investors in all types of markets.
The fact that investors can achieve investment level returns even if the market stays relatively flat could also be why this investment has proved particularly popular, whilst the FTSE remains at historically high levels.
It seems that regardless of the prevailing economic conditions, the kick out investment continues to be a popular choice with investors. Although not yet a mainstream investment when compared with investment funds, the defined return and defined risk on offer from this fixed term investment seems to make them particularly sought after when the market is at historically high levels and investors are finding it difficult to commit. We take a closer look at the kick out plan to try and understand why their popularity has continued to rise in recent years. We also consider how this might make for an attractive opportunity in the current investment climate as well as review some of the recent market trends.
Kick out investments hitting the mark
The defined return for a defined level of risk has made the structured investment an attractive addition to the range of investment options available, whilst in recent years the kick out plan has been the stand out of this type of investment in terms of popularity. Capable of adapting its structure in line with market conditions and investor demands, the inherent flexibility in how these plans can be put together is perhaps one of the main reasons for their continuing popularity, seemingly hitting the mark with a wide range of investors.
What is a kick out investment?
Kick out investments, also known as autocall investments, are fixed term investments that have the potential to mature early or ‘kick out’ provided that a predefined event takes place. This will usually be a set of predefined market conditions which need to be met in order for the investment to mature early, such as a particular barrier on a set observation date. Kick out investments are therefore linked to the performance of an underlying investment, often a stock market index such as the FTSE 100 or sometimes a small number of FTSE 100 listed shares. If the required conditions are met, the plan automatically matures early or ‘kicks out’, returning your original capital along with the defined returns offered at the outset. Should this event fail to occur, the plan keeps going to subsequent trigger anniversaries (often annually) or until the end of the fixed term. The investor therefore has the benefit of knowing at outset the conditions that need to be met in order to provide the stated returns, thus providing a defined return for a defined amount of risk.
When considering which kick out investment might meet your needs, it is important to review and compare the differences between the various plans available. Here are some of the main features to consider.
The headline return on offer is understandably the investor’s initial focus when reviewing an investment. These are defined returns which are paid depending on the performance of the underlying investment. The headline return is normally an annual return expressed as a percentage, which is then multiplied by the number of years invested should the investment mature early or at the end of the term. It is important to note that these returns are not compounded, for example if the headline rate is 9% and the investment kicks out at the end of year 3, the growth return paid will be 27% (plus a return of your original investment).
The level of return on offer should be compared to risk free returns, perhaps those readily available from holding cash for a similar period of time. This will allow the investor to consider whether they are prepared to put their capital at risk in order to achieve the potential upside.