LIKE anything purporting to offer the best of both worlds, structured products promise a lot.
These investment plans, worth over £7 billion in the UK last year, offer investors exposure to stock market growth while guaranteeing the return of the initial capital. And with investors low on confidence, structured product launches have come thic
k and fast in recent weeks, all with the alluring promise of stress-free growth.
But are they really as good as they claim to be? Among financial advisers, opinion is split over the value of structured products. Some believe they have a key role to play for low-risk investors, while others believe the cost of the guarantee, in the form of a limited upside, is too much of a trade-off.
Last week, Zurich launched the Green Guaranteed Account, in which investors have participation in the growth of the RBS Green Index 1, a basket of the 30 largest companies in the global green sector, including solar energy and biotechnology firms. Standard Life also joined the action, with a five-year capital protected bond that is largely typical of the genre. The return is an average of the performance of the FTSE 100 over the term of the bond. It guarantees protection of the initial capital, unless the bond is surrendered early, while the investor's estate receives the higher of the original deposit or the market value if they die.
Another variation on the theme is kick-out plans, offered by providers such as Barclays Wealth and NDFA.
These plans end automatically if the closing level of the index to which they are linked is higher on any anniversary of the start date than the starting level. If it isn't they continue for another year. If, at the end of the term, the kick-out conditions have not been met, capital is typically returned unless the index is more than 50 per cent down.
One of the more recent innovations came from Blue Sky Asset Management. Its Asset Allocation Accelerated Plan gives investors the opportunity to select a percentage allocation to four of the main indices and offers 10 per cent of any rise in any of the indices at the end of the six-year term, up to a cap of 60 per cent. Beyond the 60 per cent investors get varying levels of participation in higher rises in the indices.
"People have been selling out of traditional funds in droves and in a volatile, slow growth environment they are looking for alternatives," explained Chris Taylor, Blue Sky's chief executive. "Notably they want increased risk control, in the face of increasingly high-profile and irrefutable economic and investment headwinds. But, they also expect enhanced scope for performance, especially in a lower growth/lower returns environment."
So for cautious investors loath to expose their money to the fluctuations of the stock market, structured products have an obvious appeal.
"There's a place for them if you want a return greater than you would get from deposits without any downside risk," said Adrian Johnston, managing director of Edinburgh IFA Johnston Financial Services. "However, if you are risk averse you should be on deposit, and if you have a big enough time frame you should have a portfolio of funds, so it depends on where structured products fit in."
Meera Patel, senior fund analyst at Hargreaves Lansdown, concurred. "If you are cautious but prepared to take a bit of risk, put some money in equities but keep a balance by leaving a good proportion in cash. Some people like the guarantee in structured products, but you are surrendering most of the upside in return."
Patel also claimed that structured products lack transparency.
"You don't always know exactly where your money is going or what the charges are because they are often implicit in the product."
For a low-risk option, structured products can be complicated, Johnston added. This is exacerbated by counterparty risk, in that the guarantees behind most products are provided by a third party. If that company goes bust, investors are not protected under the Financial Services Compensation Scheme. However counterparty risk is far from unique to structured products.
But concerns with transparency and complexity are unfounded, argued Taylor. "There is nothing complex about what goes under a structured product, particularly compared with how a traditional fund works.
"The level of knowledge needed to understand structured products is not great, whereas you would not expect the average investor to understand a fund manager's investment process."
Few structured products offer income, and with up to 30 per cent of returns from the FTSE 100 accounted for by dividends, this is a point frequently raised by those not enamoured of the genre. "When you invest in equity funds, you normally get capital growth plus the income rolled up, which is a big part of the return you get," said Patel. "With structured products you lose out on dividends."
Blue Sky's Taylor agreed that in most products the value of the return was often diminished by the lack of dividends. "Plain vanilla structured products sold by high street banks, which account for up to 85 per cent of the market, are not necessarily good value for experienced investors," said Taylor.
"But the more intelligent propositions include higher participation levels that make the lack of dividend less of a problem, and the returns compare favourably with those provided by many active fund managers, who typically under-perform the index."
So while the basic premise of structured products sounds simple, there are myriad considerations to bear in mind. Initial charges tend to be around 3 per cent, reducing the return you get, particularly where growth has been limited or non-existent. It's also important to bear in mind that if all you get back after five years is your original investment, its value will have been eroded by inflation.
But with the sector evolving, the prospect of structured products truly delivering on their promise of equity style returns with no capital risk is increasingly realistic.
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20|| Benefit from stock market growth without capital risk
||1918|| Exposure to markets many investors would not access directly, such as commodities and emerging markets, creating added diversification
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16|| Some products give access to various global indices
||1514|| Different levels of protection and participation available
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12|| Potential for positive returns where direct investment would have generated loss
CONS
1 Capital locked away and normally accessible only at the expense of a penalty.
||76|| Comparing performance is difficult: performance of past products is hard to find and few plans can be compared on a like-for-like basis.
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4|| Guarantees come at the cost of growth restrictions
4 If the third party behind a product goes bust you would not be covered by the Financial Services Compensation Scheme.
5 Typically no benefit from dividends
