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Structured products – valuable addition to client portfolios?

Ian Lowes, IFA and founder of StructuredProductRview.com, comments on the results of a survey among whole-of-market financial advisers on the value and risks of structured products  

As an Independent Financial Adviser who scours the investment universe to find attractive opportunities, I know there are a multitude of reasons to invest in structured products, not least that investors can benefit from knowing the potential outcomes at initial investment.

StructuredProductReview.com recently carried out a survey among IFAs asking for feedback on these investments.

Three advantages flagged by advisers

The three biggest advantages of structured products for Independent Financial Advisers were the products’ defined returns, market protection barriers and known maturity dates.

When managing a client’s financial affairs, it must be stressed how valuable it is to know exactly what you stand to lose or gain when investing, hence it came as no surprise that the ‘defined return’ feature was the dominant reason why advisers said they invested in a structured product, with 83.48% of all advisers overall claiming this as an advantage.

Linked to this, the fact that structured products have the ability to make gains in relatively flat market conditions, and offer geared returns in a rising market, where more traditional passive investments may not be able to, is a reason advisers see structured products as a valuable investment option.

Known maturity dates were considered a natural second to defined returns, with 52.75% of advisers seeing this as an advantage for structured products. The ability of a structured product to define the potential outcomes and also at what point they can occur, was a confidence earner for advisers. Not least because knowing maturity dates can be highly useful when tax planning and optimising returns in investors’ portfolios.

The survey also validated the argument that market protection barriers are valued by advisers, providing a level of reassurance when investing in a structured product. Some 63.48% of advisers supported the view that market protection barriers, typically affording protection in all but the most severe market conditions, are advantageous, providing the ability to see how the investment would perform in different market conditions and offering a certain level of confidence to both the adviser and their client.

Two other types of structured investments, capital ‘protected’ products and structured deposits also offer capital protection, subject to continued counterparty solvency, which is highly valued by investors.

From these results, it can be argued that using a structured product or a range of structured products as a means to diversify a portfolio is persuasive.

How advisers viewed the investment risks

Of course, as with any investment, there will always be certain risks that need to be acknowledged.

The danger of losing client money, not because of the performance of the product but because of the failure of the financial institutions backing the product, was viewed as the biggest disadvantage to structured products, with counterparty risk being selected by 75.54% of advisers as the investments’ primary risk.

Counterparty risk comes down to the fact that a structured product is effectively a loan to an investment bank – which in extreme situations such as those seen in the Financial Crisis, could collapse. The memory of Lehman Brothers’ default is still fresh and there is always a risk that another bank might go bust and not be able to meet its contractual obligations.

However, when considering an investment backed by a high street bank such as Santander UK, or Barclays Bank, then you must consider that the default of one of these institutions would not only have a catastrophic effect on your structured product, but also the UK and potentially global financial markets and consequently your other investments. It could therefore have a disastrous effect on your entire investment portfolio, and so if you believe such an event will happen, you should maybe not invest but rather buy some chickens and a shotgun instead.

In reference to Lehman Brothers, the Financial Ombudsman Service (FOS) ruled in a trio of rulings in July last year that advisers could not reasonably have known the bank was in such financial turmoil when they recommended clients invest in structured products to which it was counterparty.

It is also important to note that investors did not lose everything. Even where there was no recourse via the FOS or the Financial Services Compensation Scheme, the liquidation process of Lehman Brothers has seen many investors recover more than 37.5% of their investment to date with more to follow.

More platforms need to carry products

The survey found also that many advisers saw the lack of access to structured products on platforms as a problem. This limited availability on platforms was judged by 32.48% of advisers to be a disadvantage.

Popular platforms used by the respondents are Cofunds, Skandia and Fidelity FundsNetwork but if structured products were accessible on more platforms, and the platforms provided more than just a product name on a list, perhaps more advisers would use them.

Too complex for clients?

An enigma to advocates of structured products is when structured products are dismissed as being too complex. As a financial adviser, understanding what an investment does is part of the analysis, yet 48.51% of IFAs participating in the survey believed structured products were too complex for clients to understand.

Perhaps, a detailed rundown of the derivative options that the bank uses to provide the outcomes offered by a product may be a bit difficult for an investor to get their head around. However, it has been argued that the outcomes are much easier to explain to clients than hypothetical circumstances are, but this does not appear to be the view of many IFAs.

Attractive addition to portfolios

Ultimately, structured products are an attractive addition to many client portfolios because they can be selected with their defined outcomes to meet specific financial objectives – considering factors such as goals, risk tolerance and time. Therefore, they can diversify the risk of client portfolios, helping advisers achieve their clients’ aims. When you invest, you are agreeing to accept a degree of risk in exchange for a potential gain. As advisers we assess the suitability of particular investments in relation to a client’s attitude to risk and reward, and buying structured products when properly assessed can deliver attractive results time and time again.

StructuredProductReview.com carried out the survey among 600 independent financial advisers.

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