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17/01/206 things the mini-bond scandal can teach investors

Thousands of investors have been sucked into putting their money into unsuitable mini-bond products following extensive advertising, particularly on social media. The Financial Conduct Authority (FCA) has now clamped down on the marketing of such products following a scandal, but many are likely to lose their money.

What is a mini-bond?

A mini-bond is effectively an IOU where you lend money directly to businesses, receiving regular interest payments over the term of the bond. However, the money you make back is based entirely on the firms issuing them and not going bust. As a result, they are not suitable for most investors. If the business collapses, you are not guaranteed to receive your money back. Mini-bonds are not normally protected under the Financial Service Compensation Scheme (FSCS) either.

The London Capital & Finance scandal highlighted this.

Around 11,500 bondholders poured £237 million into London Capital & Finance after being promised returns of 6.5% to 8%. The investment opportunity was advertised extensively, including on social media platforms. This meant it reached a wide range of investors, including those it may not be suitable for. The firm collapsed in January 2019 and investors could lose all their money tied up in the mini-bonds. For some investors, it could mean losing their life savings or having to adjust plans significantly.

Coming into force on 1 January 2020 and lasting for 12 months, the FCA has banned mass marketing of speculative mini-bonds to retail customers. Over the course of the year, the regulator will consult on making the ban permanent.

Andrew Bailey, Chief Executive of the FCA, said: “We remain concerned at the scope for promotion of mini-bonds to retail investors who do not have the experience to assess and manage the risk involved. The risk is heightened by the arrival of the ISA season at the end of the tax year, since it is quite common for mini-bonds to have ISA status, or to claim such even though they do not have the status.”

As a result, speculative mini-bonds can only be promoted to investors that firms know are sophisticated or high net worth.

Learning from the mini-bond scandal

The FCA ban aims to protect investors, but some lessons can be learnt from the mini-bond scandal too.

1. Make sure you understand your investments

Investments can be confusing, but you should ensure you understand where your money is going before parting with your cash. Taking some time to do your research can give you more confidence in your decision and reduce the risk of choosing products that are not right for you. If you would like to discuss an investment opportunity and how it fits into your plans, you can contact us.

2. Ensure investments are authorised and regulated

Investments that are regulated and authorised by the FCA can provide you with protection. Listed bonds are not regulated by the Financial Conduct Authority.

What is more, a business does not have to be regulated by the FCA to issue mini-bonds. As a result, they are not suitable for most retail investors. Even when a business claims to have regulations, it is worth checking this is true and understanding what protection this offers you, if any.

3. Make sure investments fit your risk profile

Mini-bonds are considered a high-risk investment. That means there is a greater chance your returns could be less than your initial investment or that you lose all your money. Your risk profile should consider a range of different areas, such as your capacity for loss, investment goals and other assets. In many cases, the risk associated with mini-bonds would be too high for typical investors.

4. Be mindful of scams

Financial scams are rife, and the mini-bond scandal highlighted why it is important to carry out due diligence. Some mini-bonds falsely claimed to have ISA status, making them more tax efficient. This could mean some investors face unexpected tax charges. However, this claim could also lead investors into making a decision that is wrong for them. ISAs are commonly used products that can hold investments with varying levels of risk.

5. Do not rush into making decisions

When you see an ad with an enticing offer, it is easy to react straight away. However, carefully considered decisions are far more appropriate than impulse ones when it comes to investing. Do not rush into making investment decisions. Instead, take some time to think about what your options are, and which is most appropriate for you.

6. Be realistic about investment performance

With some money bonds claiming to be low risk whilst offering returns of 8%, it is easy to see why retail investors were tempted, but investments with higher potential returns will carry higher levels of risk too. When assessing investment opportunities, be realistic. Here, the old saying rings true: if it sounds too good to be true, it probably is.

Please contact us if you have any questions or concerns about your investment portfolio. Our goal is to ensure each of our clients is comfortable with their investments, and wider financial plan, including the level of risk involved.

Please note: The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.