NBS warning: Think carefully before investing in corporate bonds and check the company you are about to lend money to
– Slovaks have been increasing their investments in bonds. While in 2014 the volume of households’ savings invested in these instruments was just short of 1 billion euros, two years later the number exceeded 2 billion and already in the first half of 2019 the amount represented 3 billion euros.
– In the neighbouring Czech Republic, corporate bonds are popular among investors as well, but instances of corporations not repaying their issuances are also starting to appear.
– Exceptionally low interest rates increase the demand for investment instruments that promise a higher return, albeit at a higher risk.
– Ordinary consumers often do not realise these risks.
What are corporate bonds?
Corporate bonds are issued by regular corporations, meaning they are not issued by the government or by public organisations. Bonds are an instrument by which the issuer borrows money from the purchaser. The issuer, i.e. the corporation that issues these securities, commits to repay the bondholder at a specific date the owed amount and the agreed return. Corporate bonds, however, are usually not secured. Even if they are, potential investors need to check whether the issuing terms set out how and to what extent the bonds are secured. Corporate bonds often bear a high degree of risk that is essentially contingent upon how well the company issuing the bonds is doing. Corporate bonds should not be considered a replacement for term deposits with banks.
What should you look out for?
Cautious investors should consider that by purchasing a bond they are effectively financing a business activity and fully exposing themselves to all the risks associated with doing business. Therefore, they should only lend money to companies and purposes they can trust.
Before deciding whether to purchase a bond or not, investors should always gather as much information on its issuer as possible, e.g. information on their financial condition. The bond’s published issuing terms provide just basic information required by law and are primarily meant for professional investors. If the “ordinary financial consumers” find themselves unable to understand or analyse the information, they should not invest in corporate bonds.
At the same time, the rule of thumb is – the higher the return promised, the higher the risk. Exercise particular care if the return is in double digits.
One other thing to consider is that investors will need to wait until the bond’s maturity for their money to be repaid. They will not be able to access the money sooner, except for coupon payments, if agreed with the issuer. Although immature corporate bonds may be sold to another person, it is often difficult to find a buyer due to the low liquidity of the secondary bond market.
What are the tasks and responsibilities of NBS?
Where a bond is offered publicly, NBS needs to approve its prospectus. It is a document that contains all the important information for investors to take an informed decision. When approving the prospectus, NBS checks whether it includes all the required elements, but it does not verify the correctness of the stated information, nor is it responsible for the information.
Where corporate bonds are sold through investment service providers (banks, investment firms, financial intermediaries, etc.), NBS checks whether these providers comply with the statutory rules.
Národná banka Slovenska, however, does not supervise whether the providers comply with the Securities Act, nor whether they repay the bond or not. Furthermore, Národná banka Slovenska does not approve the bonds’ issuing terms. When investors are faced with a situation in which the return or principal from their bond is not repaid, they need to lodge a civil claim at court.
Peter Majer
NBS Spokesperson
National Bank of Slovakia
Communications Section
Imricha Karvasa 1, 813 25 Bratislava, Slovak Republic
Tel.: +421-2-5787 2142, +421-2-5865 2142, +421-2-5787 2169, +421-2-5865 2169
Internet: http://www.nbs.sk
Reproduction is permitted provided that the source is acknowledged.