Money: Fun, but little bonus in bonds

By PHILIP MACALISTER

It's no wonder a company like Global-e tries to establish a modern-day investment-cum-lottery in New Zealand when the biggest, and arguably the most successful, unit trust in the country is the prize-draw-driven Bonus Bonds fund.

The $2.1 billion Bonus Bonds trust, now owned by ANZ Banking Group, eclipses all other managed funds in New Zealand. It is undoubtedly the most profitable -- for its owners, as opposed to its investors.

Bonus Bonds was set up in 1970 by the Government as part of the Post Office Savings Bank.

It has become a sort of national icon, as the Golden Kiwi was, and it continues to grow in popularity. In less than two years, the fund has received inflows of $400 million, which is significant considering the total mainstream managed fund industry, made up of more than 400 funds, attracted only $1.17 billion in the past 12 months.

ANZ says the number of Bonus Bonds on issue increased 28.8 per cent in the year ending last September.

Part of the beauty of Bonus Bonds is their simplicity, and dare we suggest it, the fact that they have a fun element and tax-free payout.

When you buy a bond (the minimum purchase is 20 at $1 each) the money goes into a unit trust which invests mainly in low-risk fixed interest. Instead of making distributions to unit holders on an equal basis as a regular unit trust would, the earnings from the fund are distributed to unit holders in the form of a prize draw, like a lottery.

The number of prizes is determined by how much money the fund has made in that period. But because markets fluctuate and bonds can lose capital value when rates rise, as they have done in the past year, the manager has a mechanism to keep the pool reasonably constant.

There are always the top three prizes of $300,000, $100,000 and $50,000 each. The prizes then range from $5000 down to $20 each.

Compared with Lotto, and what Global-e plans to give away, the top prizes are relatively small.

Another of the attractions, and one of the differences between Bonus Bonds and Global-e, is its egalitarian nature. All the money earned by the trust is returned to bond holders in the form of prizes, with the exception of ANZ's management fee.

The chances of winning fluctuate, but the range is between 1 in 9600 and 1 in 9700 each month.

ANZ says that in the year ending September 30, it paid out prizes totalling $74.4 million to 2.15 million winners.

One of the enigmas of Bonus Bonds is why they are so popular.

One of the reasons advanced by IPAC Securities general manager David van Schaardenburg is that Bonus Bonds have been around for so long they have built up a strong brand, reputation and awareness with the public.

Many of us may have at some time been given Bonus Bonds as a gift by either our parents or grandparents.

Another reason is that New Zealanders love a flutter. There is clear evidence of this in the growth and acceptance of gambling such as Lotto, horse racing, casinos and now betting on all manner of sports events through the TAB.

But do people consider it a good investment?

While the academics rubbish it as a way of saving money, it has characteristics which make it appealing to the public.

The key one is that people who buy Bonus Bonds are reasonably well assured that every dollar they put in will be paid back when they want it.

The idea that money is safe is one that resonates with New Zealanders, especially those that lost money 13 years ago in the sharemarket.

As Mr van Schaardenburg points out, Bonus Bonds are essentially a capital stable fund. Perhaps the trouble is that people get confused by the terminology capital stable, despite understanding the concept.

It could also be argued that Bonus Bonds have been lucky with their parentage. Originally they were established by the Post Office Savings Bank, in the days when it was owned by taxpayers, and the Government guaranteed the money in the fund.

This guarantee was enormous comfort to people who bought the bonds. However, after the Post Office Savings Bank was sold to ANZ Bank in 1989 the Government guarantee was removed.

The current prospectus tells buyers that there is no assurance that the money will be paid back in full, however it adds that the fund is invested in low-risk investments, mainly Government stock and short-term bank bills.

Another point about Bonus Bonds is that winnings from Bonus Bonds are tax-free.

How do Bonus Bonds stack up as an investment?

Gauging the performance of the trust against other fixed-interest funds is difficult because ANZ does not make a lot of information available.

It says that of the total payout in the year to September 1998, the average after-tax payout was 4.37 per cent.

As a comparison, the ANZ New Zealand Fixed Interest Trust, which is a regular retail managed fund with similar objectives to the Bonus Bonds Trust, produced an annualised return of 7.32 per cent after tax and fees in the same year, according to IPAC.

The other interesting comparison is how much money the manager gets from the fund. With Bonus Bonds, the trust had total expenses of $25.8 million on assets of $2.18 billion in 1999. That equates to a ratio of 1.20 per cent.

The ANZ NZ Fixed Interest Trust, which currently has $27 million under management, has an expense ratio of 1.09 per cent, according to research house Morningstar.

What do you buy with Bonus Bonds?

Do not look at Bonus Bonds as part of an investment portfolio, or part of your retirement planning package. While there is a chance you may win a reasonable sum of money, say a couple of hundred thousand dollars, there is also the probability that you will get nothing or just a small sum.

Remember, the odds of winning just something each month (between $20 and $300,000) are 1 in 9600.

One of the attractive aspects of Bonus Bonds is that you will in all likelihood get your capital back when you redeem your bonds. Remember that inflation, even though low, will erode the buying power of each of those dollars over time.

The other way to look at it is what is called the opportunity cost of the money. Instead of putting it into Bonus Bonds, you could invest in cash or fixed interest and be reasonably assured of getting a return of 5 per cent every year, or you could invest in shares and get significantly more over the medium to long term.

However, if the money you plan to put into Bonus Bonds, or any of the other prize-linked investments, is spare cash and you don't mind forgoing a decent, reasonably predictable rate of return, with the chance of winning something substantial, then go for it.

Philip Macalister is the editor of online money management magazine Good Returns. It provides news on managed funds, mortgages, insurance, superannuation and financial planning.