Fixed rate bonds pay up to 4.5%, but retail bonds offer much more. Rupert Jones reports
Savers looking for a better return on their money can earn up to 4.5% interest by putting their cash into a fixed-rate bond. Or they can make more – typically between 5% and 7.5% – with its riskier relative, the retail bond. But what is the difference?
Retail bonds are issued by companies and aimed at private investors. They have been hoovering up a lot of cash lately – Tesco’s banking arm launched one at the start of this month offering a fixed rate of 5% a year until the end of 2020. On 14 May, Tesco Bank pulled down the shutters after revealing it had pulled in £200m in less than two weeks.
Fixed-rate bonds, however, are accounts offered by banks, building societies and other providers aimed at people with a lump sum to save. Crucially, retail bonds aren’t covered by the government’s compensation scheme, while fixed rate bonds are.
Here we look at both types, and highlight some of the deals on offer.
These accounts allow you to stash a lump sum for a set period – usually between one and five years. In return, you get a fixed interest rate that, in general, will be higher than an easy access or no-notice savings account.
Usually you aren’t allowed access to your money during the fixed term, though a few do allow you to make a withdrawal, says Moneyfacts. The minimum deposit is usually quite high – typically £500 or £1,000 – but can be much higher or lower.
The best rates tend to be reserved for those willing to tie up their cash for five years. The good thing is that you will know what interest you will receive in advance as your rate is fixed. The risk is that if interest rates rise, you could be stuck in a poor-paying account that is tricky to get out of.
Top rates on one-year bonds include:
• 3.5% – Tesco Bank. Minimum deposit: £2,000
• 3.27% – the Post Office. Minimum deposit: £500
Over three years, best buys include:
• 4% – Close Brothers Savings. Minimum deposit: £10,000
• 3.85% – Halifax. Minimum deposit: £500
And for those happy to sign up for a five-year account, these were some of the best rates offered this week:
• 4.5% – State Bank of India UK. Minimum deposit: £1,000
Also known as individual corporate bonds, they are issued by all sorts of companies – from household names to firms you’ve never heard of – as a way of raising money.
Basically, if you buy a corporate bond, you are buying a promise from that company that it will pay you a fixed level of interest each year for a set period, plus return all your capital at the end of the term.
They are generally considered less risky than shares, but more so than putting your cash in a savings account.
In March 2011, retailer John Lewis offered its customers a five-year bond providing a fixed annual return of 4.5% with a further 2% in gift vouchers. In a similar vein, travel firm Mr & Mrs Smith, which describes itself as “the UK’s leading boutique hotel brand” (it operates a booking service and online hotel guide), recently launched a four-year retail bond paying a fixed 7.5% in cash, or 9.5% if buyers use the interest to pay for hotel bookings through the site. Applications close on 22 June.
The big risk is that these bonds are not covered by the Financial Services Compensation Scheme (FSCS), so if the company goes belly-up, you could lose some or all of your money. That will turn off many people, but there will be others who will be happy to accept some risk in exchange for a better return. And some will take the view that there is relatively little chance of a big name, such as Tesco, going out of business.
Retail bonds are popular with some older investors because you know what you will get, and when. For example, the Tesco Bank bond launched on 2 May pays a fixed 5% a year for as long as the investor holds it, until 21 November 2020, when he or she is due to get back the capital.
So an investor who signed up earlier this month will receive £5 interest per year for each £100 of bond he or she holds, paid every six months for the next eight-and-a-half years.
You can buy a bond when it is first issued by the company – the minimum investment is typically £1,000 or £2,000 – or in the market, where they are traded like shares.
You can usually access your cash during the term by selling the bond, although you will only get the market value – which could be more or less than the total you originally put in. Ideally, you will want to keep it until it matures.
In 2010 the London Stock Exchange unveiled a retail bond market allowing private investors to buy and sell them. However, not all the bonds are tradeable. For example, the Mr & Mrs Smith bonds can’t be sold or transferred.
You also need to bear in mind the impact of inflation, says Danny Cox at IFA and investment firm Hargreaves Lansdown, whose website includes a section listing the latest bond prices and yields (the total return you’ll receive from buying the bond at a particular price and holding it to maturity – which can be as far off as 2040). A few bonds, like those from companies such as Enterprise Inns and Halifax, are currently yielding as much as 10% and 9% respectively.
Some experts take the view that a much better way of gaining exposure to this type of asset class is via a bond fund.
Stockbroker Killik & Co says it depends on your circumstances and attitude to risk, but adds: “A bond fund can provide income-orientated investors with a similar yield profile to some individual bonds, while mitigating much of the company-specific risk that lies in direct bond investment.”
It also offers a booklet on bonds.