In the long run, it is sensible to inform clients as fully as possible about the risks to capital presented by a product, so they understand what they are taking on and will not demand future compensation
Whether products are bought on an execution-only basis or with the benefit of advice, investors seem to pay scant attention to product detail and believe the products offer the undeliverable solution they are seeking.
Part of me feels investors only have themselves to blame if they do not pay attention but I would be reluctant to claim product providers go out of their way to provide clear and understandable marketing literature.
Sadly, there seems to be a reluctance to break through the opacity that surrounds most investment products and much of the responsibility is passed on to the adviser.
Maybe a guaranteed product should be one where the terms are indeed guaranteed, rather than one that offers a guaranteed return of capital. This is where structured products (using derivatives to offer clearly defined returns) can offer real value to advisers and investors alike.
With tumbling equity markets, however, a number of structured income products are maturing without a full return of capital being paid to investors.
In general terms, while this is disappointing for investors, advisers and product providers alike, this is what happens when markets drop by 45% or more in the space of a couple of years ' you pay your money and take your choice.
My primary concern is that investors did not understand how the products they bought worked and so are unpleasantly surprised to find much of their capital has disappeared into investment heaven.
The biggest advantage offered by structured products is not that they necessarily carry a lower risk to capital, but that the terms can be clear and fixed at the outset of the investment period. If X happens, the payoff is Y, but if A happens, the payoff is B. The sad thing is that most products sold today are deliberately designed to pay a high income at the expense of a complex capital risk.
At Premier, we have adopted a strategy of product clarity wherever possible, and have tried to develop products suitable for the investors who buy them. We adopt certain criteria for particular product features:
Income level: To pay an income of 10% a year when base rates are 4% incurs a considerable risk to the capital invested, even when the real rate is diluted by spurious extra months. For investors who are looking to boost their income above that offered by cash deposits but who still want a good chance of preserving their capital, we believe an annual income of between 6% and 8% is suitable.
Cautious investors wouldn't normally be expected to invest in baskets of single shares.
Linking capital return to the performance of single stocks is normally inappropriate for an investor in a structured income plan, particularly when a portion of capital is directly linked to each stock, or individual stocks in a particular basket. Linking capital return to an index is far safer, benefiting from the aggregating of individual stock prices, therefore, winners can support falls in the losers.
Although some indices are less well known to investors than the FTSE 100, the benefits of the aggregating structure are significant when compared with a linkage to single stocks.
Capital return structure: The formula determining capital return can often be complex and difficult to understand. It is important to look out for periods of averaging (when the final price is determined by taking an average price over a period of time) which can significantly affect returns but can also be a valuable risk reducing measure.
A common feature is to take final index levels as the lowest level over a given period of time. This obviously increases the risk of capital erosion.
The various safety features available can also lull investors into a false sense of security, and it is important that these are properly explained.
Clarity: In common with any investment product, the most important feature is clarity. We endeavour to ensure our product literature explains clearly how products work, and pay particular attention to the capital return mechanism.
This seems to run counter to perceived marketing wisdom, which is to emphasise the positive features and disguise the negatives.
However, I would rather have people buy a Premier product for what it actually is than for what they think it is.
Stelios Haji-Ioannou, founder of low-cost airline Easyjet, and a one time defendant in a manslaughter trial following the sinking of one of his family's company's oil tankers, is well known for his forthright views on the safety costs associated with the airline business. 'If you think safety's expensive,' he says, 'you should try an accident'.
The same principles apply to investment products. If you think clarity on capital risk will put some investors off, think how much it will cost to compensate those who claim they didn't understand how their capital was at risk.
Other companies probably have their own checklists when developing products and, contrary to appearances, most investment companies do care about their reputation with investors.
As adviser, it may be worth developing a checklist of your own when reviewing these products:
• Do I understand the product fully?
• Can I explain it clearly to the client?
• Can I demonstrate the client understood the product when they bought it?
• If the worst happens, am I likely to be pursued for compensation?
It is surprising to think advisers sell products without understanding how they work.
Although this may be excusable for with-profit bonds, it is not for most structured products, where the terms are clearly laid out.
If you don't understand the structure or its implications, do not recommend the product is good advice for advisers. Simply referring a client to key features for full details of the product does not add much value to clients looking for an adviser to impart some of his or her financial expertise.
The real test with structured products, though, is to avoid the compensation risk. The temptation to make a fast buck might be strong, particularly when it is tough selling an equity-linked investment message, but it is no use if a few years down the line you lose more than you made.
The easiest way to demonstrate an investor has understood the risks associated with a product is by accompanying any recommendations with clear and unambiguous product literature.
Don't hide information about the risks to capital ' if, as a result of understanding them fully, clients decide not to buy products, you are probably better off without them.
At Premier, we will continue to ensure our products are suitable for the target market, and, more important, we'll do our best to make sure the product literature is clear and understandable.
We do not offer guarantees to investors that will not lose money but we would like to think there is little risk of them failing to understand how the product pay-off works.
Simon Weldon is sales and marketing director at Premier Fund Managers
A major advantage of structured products is that the terms can be clear and fixed at the outset of the investment period.
Linking capital return to the performance of single stocks is normally an inappropriate strategy.
In common with any investment product, the key feature of structured plans is clarity
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