Tracker bonds offer a safety net for the risk-shy, but security comes at a price, writes Laura Slattery.

Wanted: people who will hand over €2,000 or more. Money will be given back after five years, no access allowed until then.

Sum returned might include a slice of the profits made by an investment company on the stock market using the money, within limits, after fund charges and DIRT have been deducted. But then again it might not.

It doesn't sound like the most enticing investment offer ever, but this essentially describes what the majority of tracker bonds offer.

Most bonds are given the hard sell, promising unlimited growth potential (see terms and conditions), unique bonuses, locked-in gains and generous fixed rates on a portion of the cash, all while making a big fuss about a 100 per cent capital guarantee.

The guarantee that you will at least get your money back holds little sway with seasoned investors, but for risk-shy savers with €5,000 or €10,000 to spare, it is a safety net for their first experiments with the unpredictable world of the equity markets.

The return on tracker bonds is typically linked to the growth of an index, series of indices or a basket of 20 to 50 shares.

The bonds are constructed in a complex way that often makes it very difficult for investors to assess their chances of achieving the advertised maximum return, or anywhere close to it.

Wave after wave of trackers has been launched over the past few years, with overall subscription numbers depending on the prevailing investment mood.

"If investors think the market is going down, they are more likely to forgo some of the growth and look for a guarantee," says Mr Tom Clinch, adviser at Clinch Brokers.

"If investors think the market is going up, they are going to want all of the growth and the way to do that is to invest in a pure equity fund."

He notes that right now, people are becoming more confident in the market so the firms creating the bonds must work harder to attract investors.

Goodbody Stockbrokers has introduced an actively managed tracker bond.

Friends First's new Protected Investment Bond is also actively managed, with the bulk of investors' cash placed in its European Equity fund.

The product has a tracker-like term of five years, after which the capital plus bonuses are guaranteed. This makes it attractive compared with traditional with-profits products, which offer guaranteed payments only after seven or 10 years.

Investors may not forgo as much of the growth potential under these newer bonds as they do under a typical tracker, says Mr Clinch, but higher charges may apply. "The fund charge on a straightforward managed fund might be 1 per cent and on the bond it might be an extra 0.75 per cent. It's their way of funding the guarantee."

The annual management charge on the Friends First bond is 1.85 per cent. In addition, it has an allocation rate below 100 per cent for investments of less than €600,000.

This means that not all of investors' money will be placed in the fund. On amounts of €10,000-€25,000, the allocation rate is 98 per cent, meaning 2 per cent is never actually invested.

Mr Ian Mitchell of Deloitte pensions and investments says people should ask their adviser if the guarantee is in respect of the total money handed over or if it is in respect of the allocation rate.

If the allocation rate is dictated by the amount of commission the adviser gets, higher net worth clients may be better off paying for advice by way of a time-based fee, Mr Mitchell believes.

Institutions also make their money out of trackers by placing restrictive caps on the potential returns.

In the normal way investors with their own individual portfolio take bets - hopefully educated ones - on a selection of stocks.

Some will outperform expectations, while others will slump or limp along in price, but the hope will be that the good shares will more than cancel out the effect of the bad shares and drag the overall return into the black.

But under some tracker bonds, the winners cannot compensate for the losers.

A classic example of this is BCP Asset Management's Quadruple Growth and Double Growth Bonds.

BCP says investors can earn "four times the growth [400 per cent\] from the stock market". It promises to pay four times the average growth achieved by an equity basket of 24 shares up to a maximum return of 60 per cent.

But the phrase "four times the average growth" doesn't tell the whole story. Investors have to look to the small print to discover that the gain on each share is capped at 17.5 per cent, meaning all 24 would have to grow by this much or more in order to get the maximum potential return.

In this unlikely event, investors might think that they would get quadruple this growth - a return of 70 per cent - on top of their capital. Instead, the return is added to the 90 per cent of the capital that is guaranteed, giving a maximum potential return of 60 per cent.

First Active, meanwhile, has found a different way to ensure that all the shares in the basket have to be winners.

The final return on its Select 50 bond depends on the level of each stock at maturity relative to its initial company share price.

If all stocks are equal to or above their initial share price, then the maximum 75 per cent return on the bond will be paid. This return is reduced by 5 per cent for each stock that has fallen below the initial price at the time of maturity.

If more than 12 of the 50 stocks have fallen by this time, investors will simply get their capital plus a 10 per cent minimum return back. Over a six-year term, this gives a minimum compound annual return of just 1.6 per cent.

But the upside of the fund is excellent, Mr Mitchell explains. "If all 50 stocks make even a slight movement forward, the return will be 75 per cent of the capital growth - whereas the chances of any one index providing a six-year return of 75 per cent is probably quite slim, especially as the post-war bounce in markets has now taken place."

But the failure of 24 per cent of the stocks to improve in value over the term wipes out the effect of returns earned from the performance of the other 76 per cent, he notes.

"Historically, this might not seem like a huge risk factor - historically, that is until the six-year period from 1997-2003 is factored into the equation," says Mr Mitchell.

The difficulty predicting the fortunes of 50 shares over six years makes the investment a bit of a gamble.

"How is the ordinary mortal supposed to know?" asks Mr Clinch. "It's impossible to know."

People who invest in trackers are hedging their bets, he says. "That's not necessarily a bad thing, but I must admit myself I'm a bit of a sceptic."

Hybrid investments where a portion of the money is put on deposit and the rest is placed in a bond are "trying to get the best of both worlds", he adds.

"These bonds give the impression that the interest you are getting on the deposit is fantastic, something like 5 per cent. The way they do that is they subsidise the deposit using the profits they make on the managed fund," he says.

"You would achieve exactly the same results if you put some of your money on deposit at Anglo Irish and the rest in a managed fund at New Ireland. The idea that you have to do both at the same time is a bit of a con job," Mr Clinch concludes.

"It's a marketing gimmick."