Press Release

Structured products - Not to be taken at face value

8 September 2008

Many structured products, according to their promotional literature, offer both a return related to growth of the stock market and a guarantee against capital loss. The IMA believes that many of these claims should not be taken at face value.  Promoters are under no obligation to report performance, making it hard to assess the accuracy of claims about product returns.

One promoter which is prepared to disclose information is National Savings & Investment, whose guaranteed equity bond (GEB) issues are an example of "uncapped call" products which account for 54% of the UK structured product market.

IMA has compared the performance of the five NS&I GEB issues with that of funds tracking the FTSE 100 index against which the products are benchmarked:

 
Annual return
 
 
Maturity date
 Index tracking fund
 GEB
 Difference (compound basis)
 
GEB issue 5 - Jun 2008
 9.84%
 6.23%
 3.40%
 
GEB issue 4 - Apr 2008
 11.93%
 8.12%
 3.52%
 
GEB issue 3 - Nov 2007
 11.77%
 7.83%
 3.65%
 
GEB issue 2 - Aug 2007
 11.55%
 7.61%
 3.66%
 
GEB issue 1 - Apr 2007
 5.89%
 2.94%
 2.86%

Commenting, Richard Saunders, Chief Executive of IMA said:

"What is remarkable about these figures is not just the out-performance of the fund, but also the consistency of the margin of difference.  After taking account of the typical 1% annual charge in the index tracker, it would seem that GEBs are underperforming the stock market by about 4½% a year.  That is very close to many economists' estimates of the current "equity risk premium".  In other words, the returns from these GEBs can be expected over time to be much closer to risk free investments such as cash deposits and gilts than to the stock market.

While the products offer a guarantee against the index falling over a five year period, that is a relatively unusual event.  The index has, of course, seen significant falls since 2000, though it is currently over 30 per cent higher than its level of 5 years ago.  But before 2002, the last time it was down over five years was in 1978.  Investors may not realise just how much return they are giving up in order to be protected against what is a rare event."

The last few years have seen notable volatility in the stock market, and the FTSE 100 index is currently below its level of 10 years ago.  But risk is still capable of being managed. The key to managing risk is through diversification, both over asset classes and over time. A portfolio diversified across all 30 IMA sectors would have produced an average 5.2% a year over the last ten years, comfortably beating both inflation and the risk-free return. Diversification over time, otherwise known as pound cost averaging, allows investors to benefit by allowing them to buy more shares when prices are low and fewer shares when prices are high. Over the long term this will smooth out the investment risk.

Richard Saunders added:

"Funds are not perfect.  But they can be used to manage risk, and at least are transparent - what you see is what you get.  In turbulent times that remains worth holding onto."