So mention the word hybrid and you might think of a fruit tree, a Toyota Prius and if you’re an animal person, a Liger or a Zonkey!
In the investment world, a hybrid security combines the elements of both debt and equity securities.
Unfortunately with a hybrid security you don’t get the best of both of those worlds, in fact they can offer the worst of both worlds – equity like risks with only bond like returns.
Basically they’re another way companies can borrow money from investors, somewhat like a bond.
You lend your money to a company who in turn pays an interest rate return; at maturity that money can be sometimes converted to shares, cashed in, or rolled over into a new security.
The trap for investors, specifically retirees looking for income, is the companies who offer the hybrid security can be well known household names, suggesting a no risk proposition.
The cream on top is a higher than bank rate of return.
In recent times, Woolworths, Origin and ANZ have all issued hybrids to investors who’ve focused on the income yield, but not the underlying risk.
Yet the risk can arrive on several fronts.
Hybrid securities are unsecured, so the repayment isn’t secured by any asset and if a company becomes insolvent the hybrid security owner is ranked behind bondholders in the wait for money.
Market conditions may force a company to suspend their interest payments and this can have the flow on effect of lowering the market value of the security itself – income and capital loss.
Paperlinx and Elders are two companies who’ve suspended their income payments to hybrid investors.
Paperlinx hybrid securities have lost 80% of their face value since being issued in 2007.
It’s little wonder ASIC is now warning of the risks to small investors and retirees, with both groups too often marketed on the upsides and never any of the downsides.
Peter Mancell is a director of Mancell Financial Group and FYG Planners AFSL / ACL 224543. This information is general in nature and readers should seek professional advice specific to their circumstances. If you want help with your financial future, we’re arguably the best financial advisor in Australia.
