Why would anyone still sell with-profits bonds?

Brendan Burgess

Brendan Burgess

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A friend of mine has recently invested a lump-sum in a Caledonian with-profits bond. This makes no sense to me at all.

She will not have any idea of how her investment is doing for 10 years.

In the first year, she will get a bonus of 3%, whether the underlying investments rise by 20% or fall by 20%. This 3% is meaningless. If she decides to cash it after one year, they may give her any amount at their discretion. If the underlying investments have fallen by 20%, they will presumably only give her back around 75% of her investment.

Is there any case at all to be made for these bonds?

Brendan
 
Hi Brendan

Interesting question. I'd be tempted to say No ... With Profits have had their day and from recent reports, I've not seen any that continue to perform well, with most now being closed funds etc.

If your friend has only just signed up, can she get out of it under the 10-day grace period, or has she waived that / seen the period expire ?

At a guess, I'd imagine your friend was sold this:

-on the basis that the costs are cheaper than regular contribution policies (in most instances)

- Caledonian is a mutual company, owned by it's members for the good of it's members with no shareholders so does not have to pay dividends blah blah blah ....

- there is a "strong possiblity" that she may get a windfall some day ... though there is absolutely nothing that I am aware of to back this up.


Are you / is she happy she has not been mis-sold this policy etc ?

Cheers

G>
 
It is probably better to post as much information about the product before it is confined to the dustbin.
________________________________________________________________

You can invest from €6,000 to €1,250,000

Allocation rates vary from 100% to 101% (depending on the investment amount)

Early Exit Penalties – 5/5/4/3/2 % in years 1/2/3/4/5 respectively

Explicit Charges – 0.5% per annum for the first 5 years only

Every other ‘Charge’ is take off before the Bonus is declared

Interim Bonus Rate for 2007 is 3.5% so client will see 3% of this

Loyalty Bonus on first anniversary – 1% for under €30K , 2% if over €30K

Max Commission is 4% and if this was sacrificed it would increase the allocation rate by 4%.

Asset Split - 43.2% Equities , 36.1% Bonds, 18.3% Property & 2.4% Cash
________________________________________________________________



Guarantees (Where MVAs do not apply)



On Encashment = On 10th Anniversary and every subsequent 5th Anniversary of
the Policy the Capital and delcared bonus are guaranteed.
​


On Death = From the 5th Anniversary onwards, in the unfortunate circumstance of the death of the policy holder, Caledonian Life guarantees to pay 100% of the capital invested plus all declared bonus.

If the policy holder dies before the 5th Anniversary date, exit penalties will be applied. However, Caledonian Life guarantees not to pay out less than 100% of initial investment.
 
I assumed that the main question was why WP bonds at all rather than why this specific one?
 
Not in favour of nor against them, but here are a few thoughts off top of my head:

  • Capital guarantee perhaps
  • Possibility to share in mortality profit - not offered by unit linked funds
  • Possibility to share in other gains made by the life company
  • Bigger chunk of property than most Managed Funds
  • Higher allocation to Bonds than most Managed Funds
As I said, I'm not a particular fan, but I do not think it is fair to dismiss an investment without a full assessment of the asset's characteristics.
 
There will continue to be a market for With Profit Bonds while the providers, advisors and clients make money from them. Funnily enough, the biggest critics of With Profits in the past have been the providers that do not offer them in their product range.

The providers have meddled with the guarantees on the products over the last 7/8 years and they, in general, are not as attractive as they used to be. The underwriting risk has been shifted from the provider to the client.

My own understanding is that with profit reserves would have been depleted somewhat over the last number of years. These reserves are the back bone of the funds under management. I have seen payouts in positive territory where the underlying assets portray a very negative picture. But, then again, this is one of the fundamental advantages of the product.

In my experience, the only really unhappy with profit clients are the ones that don’t stay to maturity or effected policies with some of the ‘lesser’ companies. The maturity payments may not reflect the same return that you could have achieved on a unit-linked managed fund, but a price has to be factored in for any underlying guarantees that the client may have had. The same ‘price’ will apply to some of the ‘protected’ funds that are available on the market at the moment.

I suppose, it is basically down to what the investor is looking for. With Profit Bonds give some investors a warm/secure feeling about their investment, and they tick all their investment criteria boxes. In periods of sustained stock market growth it is hard to see why one would invest in a product like this, but, the popularity of ‘Tracker, Guaranteed and Protected Bonds’ is testament to the demand that there is for them.

The charging structures leave a lot to be desired but I am not sure how much will there is to change these. It is much easier to get a fund valuation on a With Profit Bond now, than it was in the past, so it is incorrect to say that the client would have no idea how the fund was doing for ten years.

Finally, just to prove how bizarre these funds can be and the different ways in which bonuses are declared, the following is an actual example of the same amount of money invested with two different ‘with-profit’ life offices within a week of each other. Both funds are now closed to new business

Current Surrender Values on a Initial Investment of €5,0078.95 in April 1998

Company A - €6,631.48

Company B - €9,750.00


 
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