Is the Bond Bubble Beginning to Burst ?

Vera Lynn : I am forever Blowing Bubbles

On the 26th of November the Financial Conduct Authority issued a public statement in regards to the marketing of Mini Bonds.

There is to be a temporary ban on the sale of them to retail investors. This because it is felt that retail investors are unaware of the risks involved. Many of the bonds issued are promoted as “asset backed” a new-fangled phrase for virtually “risk-free”. Of course asset backed relies on many factors in terms of what the asset is and it’s value as a form of overall collateral.

Regular readers of our blogs will remember our post about Bonds (The Names Bond, Junk Bond) back in 2017, whereby we spelt out what we saw as the principle risk in these types of investments, in particular peer to peer, based on my experience working for a Peer to Peer company in the City.

These risks are as follows:

  1. The company’s credit rating

  2. Whether the actual bond is secured or not?

  3. The fact that your upside in terms of return is limited yet

  4. Your risk is not only your capital but your opportunity cost of investing in the wrong asset class.

  5. Custody of the investors’ money.

  6. Bankruptcy issues.

  7. Raising interest rates

  8. Raising inflation rates

  9. No cover from the Financial Services Compensation Scheme

  10. Illiquid.

Of course the risks are not only limited to the above.

Over this year a number of companies have fell on their swords and investors have paid the penalty.

Companies such as:

London Capital & Finance over £ 275 Million

Lendy £152 Million

MJS Capital £30 Million

Harwood £32 Million

Other companies are facing the new realities of the market and FCA announcement through restructuring organisation or delaying payments.

Zopa White Knight injection of £148 Million

Blackmore Bond Delays paying it’s coupon £25 Millions AUM

Basset Gold Scaling back of it’s UK operations.

The attractiveness for bonds is a combination of a quiet storm of fundamental factors. Namely, the Baby Boomer generation approaching retirement, having bought and paid off their houses in one of the best housing booms in recent history, receiving pensions in a low interest environment and pension freedoms, mean that Individuals are looking to place their money in a safe harbour, having memories of 2008 and avoiding the vulgarities of the stock market for a perceived steady income.

Bonds sound safe. Bonds seem reliable. The problem is that even if the bond were to pay 10% per annum, even up to year 4.5 if it had paid out it’s coupons but crashed in that year you are down 50% of your initial capital. You may be better off simply investing in a Blue Chip to have both the prospect of capital appreciation and dividends?

The troubled Mexican food chain Chilango, had tilted it's hat in this direction. Chilango has entered into an Company Voluntary Arrangement (CVA) as their bond issuance £6.9 Million has become neigh on worthless. Their idea is to offer Bond holders preference shares that pay out an 8% dividend based on the company's performance. Preference shares are further down the line and queue in the case of a company going bankrupt, and in my opinion 8% is pretty strong yield for a struggling company. But at least this model is more honest than the bond issuance. The shares acknowledgement to the investor of risk. The dividend potential income even if at the expanse of depreciation of the share value. But allows investors a stake in the fortunates of the company if it does well.

As we enter the 2020’s no doubt we will read about more Bond Bubbles Busting. Maybe it’s time to reevaluate one’s holdings, even if you have to redeem early it may be worth the price, better than "All then nothing".

Only time will tell.

As for the song the message is in the music.

(RIP Paul Volcker 1927 - 2019 )

Featured Posts
Recent Posts