It can be argued that there are two kinds of innovation, one healthy and the other rather less so. O...
It can be argued that there are two kinds of innovation, one healthy and the other rather less so. On the one hand, there is the kind of product innovation that leads to the creation of one of the best-selling Pep funds in the history of tax wrappers ' corporate bond funds. On the other hand, there is the kind of product innovation that lead to the creation of what are now considered some of the most mis-trusted investment vehicles ' split-capital trusts and the more exotic structured products.
The UK funds industry has just been given a wide range of tools with which to construct portfolios, allowing a mix and match of any number of asset classes, including bonds, equities, funds, cash and derivatives. Two weeks ago, providers could only have securities funds that were 95% invested in securities or funds that were 100% invested in other collectives, no in between. As of 1 November, they can create any manner of fund that sits between the two extremes.
The ability to cap the number of units in issue, creating semi-closed-ended portfolios, has also enhanced the added flexibility of the portfolio allocation. Stick the word 'guaranteed' on top, something that until 1 November had been prohibited, and all of a sudden the industry has a huge range of potential fund launches with some extremely attractive marketing potential attached.
But what will the industry do with these added powers and scope in its creation of investment products?
The most complex product, in terms of consumer understanding, seems to be the one attracting the largest initial response from the industry. Authorised guaranteed funds, which may now be past their peak in terms of appeal for those who believe the bear market is over, will make use of derivatives in their underlying structures.
In the market climate of the past two years, it is easy to see the appeal of authorised guaranteed funds, from a provider's point of view. The incredible increase in the launch of structured products is indicative of the interest in this area.
But structured products have hardly been what anyone would describe as a simple product for investors to understand. There are many who warn the guarantees offered by these products can't actually meet investors' expectations. In some, the guarantee thresholds have already been breached.
The FSA is to be applauded for its quick adoption of the EU directive on mixed funds and its move to allow limited issue and guaranteed portfolios. Proper use of the scope given to providers is now needed. If investment houses use the added flexibility to simply create some 'easy-sell' products, rather than those of true value, the industry could, like the split-cap community, be left with another mess.
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