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Understanding new issues: retail bonds

Retail bond new issues are similar to IPOs in that they're a way for companies to raise money and they offer the public a chance to invest in their future prospects. We explain how they work.

The value of investments can fall as well as rise and you could get back less than you invest. If you’re not sure about investing, seek independent advice.

What you’ll learn:

  • What retail bonds are.
  • Why it’s important to understand the risks involved.
  • How the new issue process works.

As with all bonds, retail bonds are a type of loan or IOU. In exchange for lending a firm your cash, it will pay you a fixed rate of interest for a set period of time, after which your capital should be repaid in full. The main attraction is that the interest rate offered is typically higher than what's available from savings accounts. But the risk being taken on is much greater and unlike deposit accounts, bonds aren’t covered by the Financial Services Compensation Scheme (FSCS), so you could lose money, if the firms fails to meet its interest payment obligations, or worse still goes bust.

The London Stock Exchange (LSE) established the Order Book for Retail Bonds (ORB) - to allow companies to raise money from a whole new audience. All the bonds on the ORB are available in small, manageable trading sizes for private investors. The LSE offers a guide to this market on its website.

Credit risk assessment

You wouldn't lend money if you thought you weren't going to get it back. So to make an accurate assessment of the risk you're taking on, you need to find out what kind of a credit risk the company will be to you.

Among your research you'll want to read company accounts, reports and results. The LSE's information boards cover all the companies listed on the market. Read business reports in the media. Listen to market commentary to gauge how the company measures up to competitors. Look at its history to find out its record for good management, performance and profitability.

Details of what assets the company has secured the bond debt against should be included in the Prospectus. It'll also show where you, the bondholder, stand in the queue of creditors if the company goes under.

You can also get some idea of how safe or reliable a bond is perceived to be by its credit rating. If you intend on buying individual bonds credit ratings are worth researching at the outset and monitoring over the duration of your investment.

The rule of thumb is that the lower the credit rating, the higher the rate of interest offered. But, equally, with a lower credit rating, comes a higher level of risk.

Credit ratings are worked out by specialist credit rating agencies - such as Standard & Poor's (S&P) and Moody's. The ratings are an assessment of the risk of a company or government not paying back its debt. Investors must take on board that a credit rating (however high) isn’t guaranteeing the investment is safe. Some so-called ‘high-yield’ bonds, offer a higher rate of interest but they come with much more risk and are often referred to as junk bonds.

Find out more about bonds and credit ratings

The launch of a fixed income retail bond new issue

A company kick-starts the whole process of a retail bond new issue by meeting groups of investors to gauge interest. Once satisfied that this could be a viable way to raise money, the company will release further details, generally in the form of a prospectus detailing the terms of the bond along with significant dates.

The offer period begins on publication of the prospectus. As with IPOs the offer period is subject to early closure if investor demand exceeds expectations. Usually an offer period will extend to two weeks. When the offer period closes, investors' applications are formally confirmed with the allocation of bonds.

An open market

After the initial release, retail bonds are traded on the market in the normal way. So the bond price will move up and down according to market forces and investors could find the value of their bonds fall below the price they bought them for. Equally, a selling opportunity for the bonds you hold may present itself if the market value rises above the price you paid.

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