Concerns focus on small investors as €500m flows into unregulated loan note projects
Loan notes involve investors putting up around €80,000 or more than €100,000 into projects to boost their own savings or for a personal pension. In many cases, the cash goes into commercial or residential property projects at home or abroad. Picture: Mac Innes
There are growing concerns in the investment brokerage industry about the hundreds of millions in cash raised since the last financial crash from ordinary households and injected into unregulated loan note investments.
Two leading brokers estimate that €500m has been raised by brokers since the last financial crisis from loan notes for investment projects that give little protection for small investors when things go wrong.
Loan notes involve investors putting up around €80,000 or more than €100,000 into projects to boost their own savings or for a personal pension. In many cases, the cash goes into commercial or residential property projects at home or abroad.
For the small investor, the lure of dazzling returns by way of dividends and the principal returned when the investment matures can be irresistible.
The brokers said many of the projects are likely to be viable but that individuals are increasingly likely in the era of low-interest rates to take on risks they would never have contemplated in the past.
On the selling side, the brokers said the brokerage industry is being offered commissions to sell unregulated investments by the principals driving the unregulated schemes that can dwarf anything they will earn from regular investments.
And in the minds of ordinary investors, there can be a blur of confusion about investment firms that as corporate entities are heavily regulated by the Central Bank when they sell regular investments, but are also selling loan note investments that are not regulated.
Small investors have no easy comeback to seek compensation if it is found they were exposed to unacceptable risks.
Regulated investment firms are levied fees to help pay the costs of their regulation and to help fund investor compensation pots, if the need arises. Directors of brokerages also have to take out professional indemnity insurance and face a whole battery of protections of rules and EU law designed to help investors when buying regulated investments.
Concerns about unregulated investment products are nothing new, but the leading brokers said they are concerned that the burgeoning loan note industry has heightened the levels of risk for small investors. Unregulated products in Ireland are attracting significant amounts of money, a potential early warning sign of trouble ahead.
Using loan notes is a common way for many investment projects to raise funds but that does not mean they are suitable for ordinary households, the brokers warn.
Michael Dowling, a senior mortgage broker who has held senior posts in the industry, estimates €500m has been invested through loan notes in the last 10 years. The money has been injected into a wide range of investments, many of which are in property.
Mr Dowling said there were many projects that do stack up and have delivered for investors, but equally, he said there are risks. He said he is “not so sure that the investor fully understands the exposure in terms” of loan notes as opposed to investing in regular investments.
"There is no evidence of wrongdoing but the blurring of the lines between regulated and unregulated investments were a matter of concern, Mr Dowling said.
“The individual investor may not understand that they are investing in an unregulated product because they are dealing with a regulated entity which is dealing with the investment,” he said.
“It may be a matter of naivety on behalf of the investor even though they have been told it’s an unregulated product. The reality is that it is hard to distinguish between the two, from an ordinary individual’s viewpoint, when it comes to investing money,” the broker said.
Nick Charalambous, managing director of broker Alpha Wealth, which has offices in Cork and Dublin, said loan notes can vary in the way they are structured and are used as a way of raising money for projects, including commercial property. Different tiers of finance are raised, including equity from the principals behind the project, bank finance, and then loan notes from investors. He said there was a pecking order where the banks have the first call should things go wrong.
Mr Charalambous said there was a growing concern in Ireland’s brokerage industry about unregulated investments by way of loan notes. In some cases, ordinary investors are being urged by professionals to contact financial brokers about specific investments involving loan note capital. He said many are bona fide schemes, while others involve projects “in which the devil is in the detail”.
He said he has come across investors who didn’t know the types of investment they were getting into and were not fully aware of the nature of the products. He is worried that too many brokers are focusing on unregulated products, potentially increasing the risks for their clients.
Such loan note schemes can offer brokers commission rates of 4% and as much as 10%. Brokers offer clients returns of 6% to 10%, depending on the nature of the schemes. Some property-based loan note projects have in the past offered maturity investment terms to ordinary investors of as little as 12 months but those are less common now, he said.
Loan-note schemes are burgeoning because “there is a race for a yield” on behalf of clients, Mr Charalambous said.
“It is also a race for higher commissions” for brokers as the industry chases the maximum fees, from loan-note investments, he said, and some investors are taking on undue risks.
Mr Charalambous said it was “really difficult” for clients to realise they were buying unregulated products.
Some of the unregulated products are good and all loan note projects cannot be labelled as being all the same, he said.
The focus, he said, was currently on loan notes but the underlying issues for brokers selling unregulated investments are wider.
However, Rachel McGovern, director of financial services at Brokers Ireland, the business group for 1,225 brokerages, said unregulated investments offer investors the opportunity to broaden their investments and if they have the means to invest in unregulated products then they should be able to do so.
She said business owners may want to invest in unregulated products and it is right to do so if they have the proper knowledge and advice.
Ms McGovern said she wouldn’t want to be negative about unregulated products as long as they are sold in an appropriate manner to appropriate people.
She said some investors feel there are some regulated products that don’t meet their needs or are too costly.
Asked whether the era of low interest rates has increased the temptation for ordinary investors to take on too much risk, Ms McGovern said some in the industry would welcome regulation of products that are currently unregulated.
She said the issue of a regulated broker selling unregulated products is not usually an issue as long as the broker is making clear to the client that the investment is an unregulated product.
Investors are also interested in a wide range of products such as renewable energy projects and may request the broker to investigate such opportunities, Ms McGovern said.
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