Income bonds default after FSA risk warning

More than 20,000 investors in Keydata income plans are no longer receiving monthly payments because the life settlement bonds backing their plans have defaulted – just a week after the Financial Services Authority (FSA) warned of the risks attached to these investments.

On Tuesday, Lifemark, the Luxembourg-based company that issued the bonds, gave notice of default on its March interest payments. These payments were meant to be funded by an underlying portfolio of second-hand life insurance policies. But, since being put into administration by Luxembourg’s regulator in November, Lifemark has been forced to disrupt payments in order to keep paying the premiums on the policies and preserve their value.

Keydata was put into administration in the UK in June, when it emerged that £103m-worth of life insurance policies managed by SLS Capital – used to back other income plans – had been “misappropriated”. Adminstrator PwC estimates that another £350m is invested in Lifemark-backed products and while the policies still exist, the proceeds to pay monthly income do not. “It will affect around 23,000 Keydata customers,” said PwC.

Life settlement investments aim to offer a high income by buying life insurance policies from older US citizens, maintaining the premiums on them, and receiving the proceeds when the policyholders die. Providers in the UK include EEA Fund Management, SL Investment Management, Policy Selection and Managing Partners.

EEA says its Life Settlements Fund “provides a lower-risk investment solution with the prospect of stable and consistent returns historically uncorrelated to traditional investment markets”. It aims to provide a benchmark net return of 8 per cent a year.

However, last week, the FSA described traded life insurance investments as “complex products with a number of inherent risks”. Peter Smith, head of investments policy, said: “Should actuarial calculations on life expectancy be wrong, there is the potential for significant capital loss.” He also expressed concerns over providers’ marketing literature, and their high commission payments to advisers.

EEA says it already addresses these concerns by commissioning independent life-expectancy reports before buying second-hand policies, diversifying across nearly 600 policies from 90 life companies, and maintaining a liquidity buffer.

Providers also say they will support moves to raise industry standards. Jeremy Brettell, SL’s chief executive, says: “We welcome the FSA’s renewed focus on the sector as it may ultimately help to separate the wheat from the chaff.” A code of practice is due to be launched by the European Life Settlements Association in coming weeks, with “clear guidelines to promote any necessary disclosures”.

But some independent financial advisers believe life settlement investments are not worth the risk. Jason Butler of Bloomsbury Financial Planning, says: “The lack of transparency means we are uncomfortable with them. The downsides outweigh the upsides.”