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L Bonds: The High-Yield Alternative Asset You Probably Never Heard Of

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GWG Holdings, the parent company of GWG Life, has taken a novel approach to the growing industry of life insurance settlement contracts, which are the sales of life policies by their owners in need of cash.

While its subsidiary, GWG Life, has been buying life settlement contracts, at prices that exceed the surrender value of those contracts since its inception in 2006, GWG Holdings is also selling high-yield unrated bonds and preferred stocks to investors in search of yields that top those in the public bond and stock markets. The proceeds of those sales are used to finance the life settlement purchases.

A two-year unrated GWG “L” bond, for example, currently has a yield of 5.5%, while a 3-year L bond is yielding 6.25% and a 5-year bond 8.5%. The firm’s redeemable preferred stock, with a convertible option, is paying a 7% dividend.

Investors can also purchase the firm’s common stock (GWGH), which trades on the Nasdaq and is up over 29% year-to-date and 15% for the year, as of mid-day trading on Wednesday at $8.35 a share.

While the firm’s shares are liquid assets, its L bonds and preferred shares are not. They are “alternative investments fit for extra yield if you can live with the tradeoff” of illiquidity, says Bill Acheson, the firm’s CFO.

Another attraction of these investments: They are not correlated with other financial markets unlike other alternative investments, according to GWGH officials. “REITs and BDs [business development companies] tend to be highly correlated to real estate and high yield [respectively],” says Acheson. “Life insurance isn’t.”

“Investors are lending us the money to create a portfolio of policies,” says Acheson, noting that the firm’s portfolio of policies is “north of 500, heading to 1,000 or more.” Those policies cumulatively have assets of $1.15 billion, according to GWG Life President Michael Freedman.

Advisors and investors should be aware of the risks of these unrated investments. Among them: the bonds are callable and can be redeemed by the issuer at any time and their interest payments bonds are linked to the payout of the life insurance contracts that the company purchases from seniors.

If the company’s assumptions about the life expectancies of those seniors prove to be wrong or if the life insurance companies that pay the face value of the policies GWGH has rought become insolvent the firm may not have enough funds on hand to make interest payments to investors. That, in turn, could affect the price of its preferred stock and common stock.

“Investing in L Bonds may be considered speculative and subject to a high degree of risk, including the risk of losing the entire investment,” according to he firm’s fact sheet. It goes on to say that “investing in life insurance assets in the secondary market is a relatively new and evolving market” and the firm’s ability to invest in those assets at “attractive prices materially depends on the continued growth” of that market.

The firm announced its second L bond issue of $1 billion in January 2015 as a follow-on to a $250 million offering launched in August 2012 and fully subscribed by December 2014. To date, it has sold about $400 million worth of L bonds, primarily through the independent broker-dealer channel representing over 5,000 advisors, as a commission-based product according to Freedman. The minimum investment is typically $25,000.

RIAs haven’t been major buyers of the product but their interest could increase because as of mid-September these bonds are now available through Depository Trust Company “DTC eligibility … significantly increases the universe of investors who can purchase GWG’s L Bonds,” said Mark Petersen, GWG Head of Capital Markets, when the DTC arrangement was announced.

Neither Acheson or Freedman were concerned about the impact of the DOL fiduciary rule on the sale of the firm’s L bonds or perpetual preferred stock for retirement accounts, but both noted that commissioned sales by BDs would be subject to a Best Interest Contract Exemption (BICE) filing.

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