We are asked perenially about structured investment products and no wonder; they are products that many people have strong views on.
These are the products you will see listed in bank windows or sold over the phone or by direct mailers.
They are sold as protecting you from the downside of investing your money with an element of return on the upside. In most cases that we see, they are sold to risk averse investors as a reasonably simple investment.
However, these structured products (often called guaranteed) are the most complicated investment you could consider for your capital.
We really couldn’t imagine why so many of these products were being designed but when you look at the profit they make for the banks for a quick sale it’s a little easier to understand.
It is unlikely after reading the true information about them that any investor would consider investing in the mainstream products on the market place, but if you have been offered one (rather – sold one) let us know and we will gladly review it.
The whole ‘structured product sale’ starts with a poor communication in relation to risk.
Many customers are asked embarrassingly non specific questions about risk, such as ‘what risk rating are you from 1-10? ‘, or ‘here is a pyramid with cash/building society at the bottom and high risk Japanese warrants at the top, which risk are you?’.
Invariably when you are asked a stupid question your answer will have to be of the same quality and it is this poor questioning around risk that has lead tens of thousands of customers (particularly of banks) to buy such poor quality contracts.
Few financial advisers really want to explain risk as they fear the customer may not want to invest at all so they skim over risk and reward.
This section of your financial advice should take between 1-2 hours.
It is from this starting point of poor questioning that investors follow on the trail of structured contracts believing them to be a win-win solution where you can only lose in ‘extreme’ situations but can gain all round. This is highly misleading.
A structured contract is a plan that is prepared by a product provider and more specifically for the product provider.
Unlike a normal investment where you buy shares or property directly, these arrangements tend to buy a range of complex instruments to achieve their objectives and you wouldn’t begin to understand, not only how complicated they are, but also how difficult they are to stress test against market downturns.
For example, they may offer 80% of the return of the FTSE all share index as long as the FTSE all share doesn’t fall by more than 50% and not recover.
In order to achieve this, the company buys a ‘promise’ from a provider (counterparty) such as RBS, Lloyds etc which provides an annual return, which in turn provides the capital protection at maturity.
In simple terms, if the annual return (promise) was 6%, the provider of the structured product might have to place c75% of the original investment with the counterparty and that would provide the 100% capital return after the five years. The remaining 25% will go towards a mixture of charges and the purchase of complex derivatives in the stock market. It is this 25% which provides the 80% upside participation in the FTSE100 as above.
Investors in structured products often do not realise they are missing out on the dividends of the FTSE 100 and also that if the counterparty fails they may lose everything. More on that next week.
Our advisers are here to help you so please do get in touch. To contact our Northern Ireland office, call 028 6863 2692; our Cornwall office – 01872 222422 and you can reach our Southampton office on 023 8064 9674. If you prefer to email, please contact us on info@wwfp.net.
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