The Prudential has warned investors not to ignore with-profits because the products that have emerge...
The Prudential has warned investors not to ignore with-profits because the products that have emerged from the other side of the bear market are well-managed core investment vehicles.
Prudential's investment development director James Tothill said the market has suffered from providers withdrawing products and from investor expectations not being met.
He said: "Whether you like with-profits or not, over half of all life policies in the UK are invested in with-profits, 25% of pensions are and 13% of the business written last year was with-profits; and in the offshore market, you will be seeing years when a billion plus has been written.
"A lot of the with-profits funds that are still open are evolving into very active, sophisticated multi-asset funds accessing things like hedge funds, private finance initiatives, infrastructure projects in Europe - things that can make them very well diversified."
Tothill argued it was important to understand what had gone wrong with the previous generation of with-profits in the aftermath of the 1990s bullmarket.
"Consumers' expectations started to get misled, " he said. "Providers were using phrases, terms and jargon, which confused the picture. Clearly we need to understand how this market, which was worth £8bn a year got down to £0.5bn. Obviously, it was bad, very bad. Clearly the press picked up on the stories and made sure the personal finance pages were full of bad headlines. And a lot of them were warranted."
Part of the problem, according to Prudential, is the with-profits concept works well when it is supported by financial strength, when that goes the problems start.
"Good financial strength in a with-profits provider can allow investment freedom for a strong investment proposition, which allows superior investment returns, financial strength improves and everybody is happy," said Tothill. "But if there is an over-promising to investors on their returns through higher bonuses, then all of a sudden you are building up your liabilities, your assets fall from below you. Then you get into trouble.
"It is no longer a strong investment proposition, it is weak, and therefore the powers that be will step in, make sure your fund management strategy matches your liabilities, which basically means you end up with a large bond portfolio, leading to poor returns and the whole thing spirals down."
As equity markets began to turn down Tothill suggested many life companies started to take refuge in accounting practices and financial engineering to minimise the apparent scale of the problem.
He said: "Among the accounting devices used were such things as 'future profits', 'subordinated debt', 'financial re-insurance' and it caused a crisis in confidence around life companies. It meant that when the government tried to assess the financial strength of companies, it got confused.
"It asked all the companies to strip out the financial engineering and create what they called a 'form nine' - a clean analysis of the balance sheet. And that is where we are today."
As such the Prudential believes investors should be reassured the remaining players in the industry have been largely cleaned up and have enhanced transparency. It also believes that with-profits has not turned out to be such a bad investment, even in the tough times.
To back up this assertion Tothill pointed to the views of independent life company analyst Ned Cazalet.
He quoted Cazalet as saying: "With-profits policyholders have done rather better than they might have imagined over the past few years. This is firstly because of smoothing which means the underlying performance attributed to their policies has generally been better than that achieved by the funds themselves. The second reason is the with-profits fund, generally speaking, has been diversified across asset classes insulating investors from the worst of poor stock markets.
"The person who got 13.6% - the average return on a with-profits policy over five years - is writing to the press saying 'I was expecting 20%. The fact that other things have gone down does not come into the picture.
"A lot of people receiving negative returns in other asset classes are actually getting something back in the positive territory. Having said that, you have heard a lot about getting lower investment returns in a low inflation environment, and that is an important message also in the with-profits arena."
With-profits still forms huge part of average investor's portfolio.
The funds that have survived the bear market are more transparent and better placed than ever before.
Too many providers used jargon, accounting practices and financial engineering to try and hide the scale of losses once the bear market kicked in.
With-profits have not served investors badly during the bear market. Returns are down but so are returns in open ended funds.
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