Despite the massive volume of money that has been invested in derivative-linked (or structured) funds...
The most interesting recent addition to the range of structured funds available to international intermediaries has been that offered by Edinburgh Fund Managers (EFM), although Scottish Life International (SLI) has just announced a further innovation that should demonstrate the flexibility that can be generated within a capital protected framework.
EFM's Global Protected fund range is a big step forward as it allows investors to benefit from a six-monthly rolling structure while also letting them enter or leave the fund on any monthly anniversary without penalty. It also offers exposure to a truly global range of stock markets while allowing investors to benefit from protection of between 90%-100% over each six-month period.
The real plus point is that the protected price may rise on each monthly anniversary as the value of the underlying assets moves. This is a significant development because it allows investors to view some sort of performance movement on a monthly basis rather then having to wait for the traditional three-month data to feed through.
Such flexibility is not without a cost and it remains to be seen whether EFM is able to generate sufficient return on the funds' assets to offer this freedom while also providing a sufficiently attractive upside. The backtesting of the fund certainly suggests this may not be a problem.
The other significant development in the last month or so has been SLI's plan to introduce Protected.com, a fund linked to the highly topical Nasdaq Index. The fund will score heavily on the back of the current craving for technology and SLI is to be credited for breaking away from the well-trodden path of linking products to major indices.
A downside of moving to a less well-traded and more volatile index is that exposure to it will be less each quarter than that for a fund linked to an index such as the FTSE 100. This may explain why SLI is only launching a 95% protection, although the fund can be expected to perform extremely well if the recent dramatic rises in the index are repeated.
Performance issues aside, the fund demonstrates that derivatives can be used to link to all manner of underlying assets. There is no reason why a UK small cap fund could not be launched if there was sufficient demand for such a structure.
Two main trends are likely to emerge for the future of structured funds. First, there will be major innovation in the area of with profits. This innovation will be focused squarely on dispensing with this outdated and non-transparent structure. Whatever the merits of the underlying concept - and there is no argument with the principles of smoothed equity exposure within a capital protected structure - the actual mechanism is seriously flawed.
As information becomes more freely available and the internet plays a more significant role in the global investment industry, investors will struggle to come to terms with the complex structure of with profits and will demand a less opaque alternative.
The second area of innovation will be to allow investors greater control over their investments. This will lead to highly tailored solutions in which the investor can determine not just what level of protection or gearing is required but also on what index or indices and over which time period.
Initiatives such as these will also be fuelled by new media and it is vital advisers position themselves in such a way that they can benefit. The market will move away from products to solutions.
Historically, solutions have been generally been little more than pre-fabricated products shoehorned to meet a need. In future, the solution will be tailored to fit more precisely and investors will not be content with ill-fitting substitutes.
As with any single investment type, they are not without their limitations - the most important thing for advisers is to fully understand the various structures and then form an opinion.
David Ferguson is a director at The Abacus
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