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Distribution Bonds
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This type of investment bond is designed to provide the investor with an income, effectively without the need to encash units. The investment will be investing in asset backed investments which are geared to produce income as well as gilts and other fixed interest securities. The income is held separate from the capital and is then distributed (or re-invested) on a regular basis. In other words, the capital you initially invest will buy a number of units at an offer price. To receive income from your bond, you do not sell part of those units, but instead the unit price will reflect the distribution made. This is perceived as an effective way to receive income, without detriment to capital and without having to sell units (to receive “income”) when the unit price might be low
Multi manager and unit linked bond risk factor
If you like the idea of investing in an area that offers better returns than a bank or building society account, but you worry about risks of investing in shares, then bonds could be the answer.
Bonds can be classified in various ways and we have taken a broad definition in this Centre to cover those investments that fit into the lower risk categories. Demand for such products as Corporate bond Isas and with profit bonds has grown substantially in recent years and other areas have increased in profile too. We have even included premium bonds in the Centre which have no risk to capital but do involve taking a flutter with any return on your investment.
From a purist point of view, bond products are a type of fixed interest investment and in that sense they are essentially loans that are issued by companies, governments or other official bodies. But just to add to the confusion other products are also promoted as bonds, for example single premium investment bonds or guaranteed investment bonds. These products do not necessarily pay a fixed rate of interest and they may or may not be particularly safe. All of the different types of bond products are explained in our Bond Centre guide.
Bonds tend to be poorly understood and the purpose of the information in this centre is to explain what they are and to establish how they can fit into a portfolio or perhaps as stand alone investments. They can make a great deal of sense as an investment and a good starting point is to look at your objectives and attitude to risk as well as the risk aspects of the products themselves.
The wide range of products in the market can be classified in terms of risk. Our risk pyramid gives examples of low, medium and high risk funds. In the lowest risk category, your capital is safe but over the medium to long term the impact of inflation could erode your savings. The risk to capital rises as you move up the risk pyramid. The products covered in the Bond Centre fit mainly into the lowest risk and cautious sections.
The lowest risk investments involve no risk to capital and these include National Savings and gilts which are purchased at the date of issue and held to maturity.
Corporate bond and gilt funds, available in the form of unit trusts and their modern equivalent OEICs, are a step up the risk spectrum. These bond funds are designed to provide investors with a good level of income and some growth of capital in a low to medium risk environment. This is because most bonds pay a fixed rate of interest, and though the price of a bond may fluctuate, it generally does so less than a share. One advantage of bonds over equities is that they are more tax-efficient inside an Isa. There are also funds investing in overseas bond markets with the objective of taking advantage of varying interest rates and currency fluctuations. One final point is that investment trusts do not offer packaged corporate bond portfolios.
With profits bonds also feature in the cautious section of the risk pyramid and occupy a product category all of their own. They can provide a higher income and/or capital growth, net of basic rate tax, than is available from other equally secure investments. Returns are smoothed in the form of annual bonuses, which once added cannot be taken away.
In terms of your attitude to risk there are a number of different ways. One way is to look on it in terms of timescale. The risk of investing in equity-based funds diminishes over longer timescales. Equally, if you invest in cash deposits over the long term there is a very real risk that inflation will eat into your returns. Equities are far more likely to give you a better return over the longer term although they are more inately risky. Fixed interest products fit between the
You may be prepared to accept a greater degree of risk in the short term on the basis that the rewards could be greater in the longer term. Equities have delivered better returns than bonds or cash over almost every ten year period in the 20th century although, of course, past returns are not a guide to the future.
Risk can also be based around your lifestyle. A young person with no dependants may be more willing to put savings into a risky area such as emerging markets than a family where protection against loss of income of the main earner is the absolute priority. Someone who is retired is less likely to be willing to take the same risks as someone who is still earning an income. There is of course a multitude of further circumstances which can have a bearing on risk.
Only you know your particular requirements and bonds may well have a role to play.
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