Channel 4’s Bank of Dave was a fun two-part documentary (you can still view it online) about a guy so peeved by the banks’ lack of interest in local businesses, that he started his own community bank.
I won’t spoil the show in case you want to watch it. But it certainly proved one thing: the immense hurdles in place for anyone starting a new bank.
The barriers to entry are huge. Banks are (quite rightly) tightly regulated, but does that mean new entrants shouldn’t be allowed in? Not in Dave’s opinion – and I agree.
The incumbents seem to have this business sewn-up. Frankly, it’s little wonder the big-boy banks offer so little for customers. And the mutual building societies are just as bad.
I’m not surprised there’s a growing online movement to cut out the banks.
Zero rates are there for a reason
Put simply, interest rates are just too low. For over three years now, the base rate has been screwed to the floor at 0.5%. Now, the Bank of England is the bank’s bank – low rates are there to help the banks get back on their feet.
Sure, low rates help borrowers too – but never forget, they’re primarily there to ensure insolvent borrowers don’t bring down the banks.
And it’s causing all manner of distortions in the markets. Not least of which is that savers are taking on far too much risk in search of an adequate return.
I like the idea behind online peer-to-peer lending platforms such as Zopa and FundingCircle. Here, you bid to lend your cash to individuals and businesses. But as bidders compete to lend, so the interest rate the borrower has to pay goes down.
And given the number of savers chasing a decent return, bidders are possibly driving the rates down too much. The borrowers are getting too good a deal. To my mind there isn’t adequate compensation for the risk lenders are taking on. Remember: lending to very small businesses is risky; and individuals can quite easily walk away from debt these days.
Not only that, but with these deals your cash is tied up – you can’t get it back quickly if you should suddenly need it.
That said, the headline rates (around 8%) are an awful lot better than you’ll get on conventional savings. It’s just that I’ve got a niggling feeling that the economy may face some tough tests ahead – and that could lead to more defaults. There’s not much in the way of track record to go on with these online schemes and there are certainly no guarantees.
But there are larger companies, with better track records offering to take your money...
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Higher risk for higher returns
Businesses are increasingly going direct to their clients for funding by issuing corporate bonds. Companies including John Lewis, Caxton FX and Hotel Chocolat have successfully found finance among their own customers. But beware: these bonds are not the same as the bonds I normally cover here at The Right Side. These are non-transferable bonds – ie you can’t sell them if you need the cash.
And I’ve also seen a recent offering from restaurant chain, Leon. It’s currently got 13 restaurants (mainly London) and plans to open another ten with the help of a new bond launch.
Leon is offering what looks like a pretty tasty rate: 10% on the minimum £1,500 investment, rising to 15% on £5,000. But interest is paid out in '£eons' – which, as the name suggests, can only be spent on Leon products. That includes cookery courses and books, as well as in-store food.
As an extra bonus, each bond will enter a quarterly prize draw for various prizes ranging from more '£eons' to meals cooked by the founder, a head chef, or a cookery course.
While this looks like fun, I’ve got to say that unless you’re a dedicated Leon-goer, it’s unlikely to be a fantastic investment.
For starters, you’re limited to where the restaurants are – and that’s mainly in central London. Secondly, while many people love Leon's fare, it’s unlikely to be for everyone. This is fast food, aimed at the health conscious – think City workers at lunch-time, rather than a special evening meal out.
And there won’t be many people able to get through £600 a year on these super-foods (bear in mind, there’s no booze) were they to invest £5,000. And once again, you’re tied in to a three-year term, after which you can redeem, or let your bonds run (on the same terms).
But as with all of these ‘alternative investment’ schemes, it’s probably the riskiness of the venture that’s most worrying for me. While the bond ‘invitation’ looks enchanting, it’s a little bit patchy on financial detail.
It shows some rather attractive looking growth in EBITDA (earnings before interest, tax, depreciation and amortisation). But what they don’t show is that the business is loss making after all the normal deductions. According to the Telegraph, the business made a loss of over £700,000 on turnover of about £1.8m for 2011.
If I were investing in this business, it would be on the basis that I love the idea and want it to succeed. An investment of the heart, you might say.
Let’s keep our eyes and minds open
If minimising risk on your savings is your number one concern, then it makes sense to stick with savings covered by the Financial Services Compensation Scheme (FSCS). Unfortunately, you won’t find very exciting rates of return there. On the whole, I’m inclined to take on a bit more risk and go for products that offer a more generous yield.
But although I welcome the many innovative new online offerings, I just feel they mostly load up too much risk. Of the stuff I’ve looked into, Zopa is probably the best of the lot. I know many readers use this website and have been happy with the returns they’re getting. If you have any experience of this or other peer-to-peer sites, share your thoughts in the comment below.
Just be aware of the risks involved, and how long you’re tying your money up for. Remember, there’s no security net with savings outside the FSCS.
Don’t get shut out
Before I go, did you see this?
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