Guaranteed structured investments (not)
Tuesday 4th May, 2021
You may have seen the odd headline financial product luring you in like a cheap genetically modified food on a supermarket shelf.
Sprayed with fine mist and glistening in its carefully placed light, the ‘vegetables’ having been ‘harvested’ some time ago are already oxidising and potentially devoid of nutrients.
Food’s purpose is to help your family grow healthily, but with a weighting on profit for the corporation before purpose, something has to give.
Structured products are just like that. You may have seen them advertised as guaranteed equity bonds, protected investment funds, or growth deposit plans or variants thereof.
Guaranteed, they are not.
I found an article I had published in this column nearly twenty years ago and every sentiment of it remains true today.
Firstly, they are marketed with simple headlines such as 9% per year growth plan, or 5% per year super defensive kick out plan. The theory is, you are purchasing an investment linked to the growth of something familiar to you like a FTSE100 index and that the investment has some sort of underlying guarantee.
These plans often have a marketed ‘kick out’ option. This is actually marketed as a good idea but it’s the equivalent of being dumped out of a party in the rain with no taxi, and being allowed back in with a fee later.
They are poorly misunderstood, and I’m comfortable if you offered 98% of society the key information document (a requirement), they would be baffled.
A line further down into the document is a clue: “You are about to purchase a product that is not simple and may be difficult to understand”
These plans are designed with the intention to create profit for the designer first.
They are synthetic, i.e. the genetically modified products as above. You are actually never invested into the FTSE100 ever.
You do not gain from any dividends from the FTSE100. Instead, you are at the risk of default of what is called a counterparty risk. Unlike the FTSE100, which may fall drastically and recover as you have seen, these products could lose you every, last, penny, irrespective of the FTSE100.
Moreover, ‘you will not be entitled to compensation from the financial services compensation scheme’. No protection at all.
If at the end of the plan the FTSE has fallen by more than 40%, your loss is the equivalent of that.
The chances of the FTSE100 being lower in five to six years’ time?
Let’s consider that the FTSE100 yesterday was pretty much level with its 1999 high. That’s nearly 22 years later. In each of those years, if you were invested in such a synthetic product you would have missed out on the dividends of the time.
That value? A staggering 122% return over the twenty years from 1999.
These plans are designed to dump you out if certain FTSE returns are met. You think: ‘splendid I received a return’.
So if the FTSE100 was up 20% from now in two years’ time you are dumped out with 12.75% return. Higher still? It wouldn’t matter, you still receive the 12.75% over the two years.
Historically if you look at some of these plans you see how many have the early kick out option triggered.
For example, look at the historical simulation of the FTSE kick out plan. In nearly 72% of scenarios, the plan matured at year one. Ample time for some new product literature to arrive for the next kick out plan from the adviser I’m sure and hey presto, off we go again at a staggering 4.67% entry cost and a fine commission to the provider/adviser.
The customer just sees numbers going up but doesn’t have the helicopter view over their financial maze which shows they are losing the dividends and extra growth.
Will the FTSE be up or down and is it a good investment? You are entering a new world of sustainable investing which does not support many of the valuations of the stocks in the FTSE. If you were uncomfortable and wanted to get out, its not as easy as you think.
Peter McGahan is Chief Executive Officer of Independent financial adviser Worldwide Financial Planning, which is authorised and regulated by the Financial Conduct Authority.
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The value of shares and investments can go down as well as up. Your home may be repossessed if you do not keep up repayments on your mortgage.