Take a small punt on death bonds

published 20 March 2009

It's not the most conventional way to make money, but paying the life insurance premiums of old or ill Americans has been a winning investment strategy, returning 7%-9% a year, says David Rawson-Mackenzie of Centurion Fund Managers. The story is simple, if macabre. Millions of Americans have insurance, but can no longer afford their premiums, or want to cash in early. So they sell the rights (via a broker) to investors for a lump sum. The investors then pay the premium until the original policyholder dies, when they get the insured sum. The sooner the policyholder dies, the more profit the investor makes. If they live too long, the investor makes nothing, because the cost of the lump sum plus premium payments outweighs the return.

If you think that sounds a little questionable, you'd be right. 'Life settlement' brokers advertise in America in the same way that dodgy debt consolidation firms do in Britain. They appear on TV "tucked between Cash4Gold spots and the ones with the catchy get-your-degree jingle", says the Minneapolis Star Tribune. "The ad's happy ending: a smiling Gramps waving a cheque newly arrived in the mail." There's a risk of mis-selling, especially as regulation is limited UK funds will be regulated by the Financial Services Authority, but the American brokers they use won't. Still, the supply of policies seems certain to grow as retiring baby boomers need cash, while buyers are keen. Centurion, which manages £400m, saw a 50% rise in inflows in 2008, while the Pensions Institute reckons the market could grow ten-fold to £80bn in a few years.

Investors should tread carefully: the fact that Wall Street is already packaging up 'death bonds' is rather too reminiscent of the subprime blow-up. But a small investment could be a useful way for wealthy individuals to diversify their portfolios. British funds include EEA Life Settlements Fund (020-7553 2350), which buys policies with a life expectancy of two years or less. It's up 10.73% over one year and has a total expense ratio of 2.48%. Centurion's Defined Return Fund (020-7079 5882) is up 6.64% over one year and carries a total expense ratio of 2.2%. It invests in policies with a longevity of eight to ten years. Both have a $50,000 minimum investment.