The FSA has flagged up a number of consumer risks associated with exchange traded products (ETPs) in a fact sheet published today.
The fact sheet, which the FSA said does not constitute guidance, said ETPs can pose a risk both in terms of conflict of interest issues and collateral requirements.
It said physical and synthetic strategies can expose investors to high levels of collateral and warned the collateral provided must be of sufficient quality and quantity to cover any losses.
The watchdog also sounded concerns over potential conflicts of interest arising from the number of third parties involved in ETP structures. Third parties include agents arranging stock lending, firms selling swaps to funds using synthetic strategies and custodians safeguarding investors' assts.
"These parties' interests may not be the same as those of the investor," said the fact sheet. "In some cases, ETP providers may be affiliated (part of the same company) to the parties providing these services to the ETP, which can increase the potential for conflicts of interest.
"Many ETPs are managed electronically, not by a dedicated fund manager. Therefore, the ETP provider may not be able to effectively challenge potentially conflicted parties."
The regulator said its review of the risks posed by ETPs had been gleaned from a series of visits to providers which account for 70% of the European Union market.
"Our work leads us to believe there are a number of competing views on the risks consumers face if they choose to invest in an ETP," it said.
Elsewhere, the FSA said the retail market for ETPs, while small, is expected to grow.
The fact sheet explains the key features of ETPs, and the differences between them, investment strategies used to generate returns and the mechanisms by which they are traded.
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