There are times when it is difficult not to think that the compensation culture has gone too far. We are in danger of mollycoddling those who buy financial products to the point where, not only do they not bother to check on anything before they invest but virtually anyone can claim that they did not understand what they were buying.
A case in point is the recent decision by the FSA with regard to a Lloyds TSB extra income and growth bond – otherwise known as a pre-cipice bond or stockmarket-guaranteed income bond – which has opened the door to claims for compensation from an estimated 50,000 bondholders.
The ruling related to a particular customer who maintained that he was not given enough warning about the risks involved in Lloyds TSB's extra income and growth plan. The bond guarantees an annual 10.25 per cent return but the return of your capital is linked to the performance of shares which have, as we all know, gone down.
The investor got his 10.25 per cent annual return but he claims that he did not understand that it might be at the expense of capital if certain criteria regarding the performance of a portfolio of 30 leading shares was not met. Lloyds TSB, not unreasonably, points out that there are 15 warnings to this effect in the literature. But the FSA has still found in the complainant´s favour and compensation may be forthcoming.
It is possible that this particular person was simply not capable of understanding the contract and had bought it direct. But if 15 warnings that you may not get your money back are not enough, what are the product providers to do? Increasingly, too, we all come across the obviously intelligent investor who is just trying it on when things have not gone his way.
A survey by the FSA rev-ealed that the average age of investors in precipice bonds is over 60. In addition, around 20 per cent of sales were through high-street financial firms such as banks and 12 per cent were the result of personal, tailored advice by IFAs. However, nearly 70 per cent of buyers took no face-to-face advice before investing.
It is difficult to believe that none of these investors read the literature or that they are all too stupid to appreciate what the risks are.
There is no doubt that some companies could do more to highlight the risks by putting it in bigger type and making the explanation of how the bond works simpler.
But to argue that most people cannot understand what is involved is an insult to the intelligence of 60-year-olds. They mostly knew what they were doing but the desire to improve their income made them ignore the risks.
FSA managing director John Tiner says: “We are concerned that a product which has the risk of substantial consumer loss has largely been sold through mailings and without the benefit of personal tailored advice or a face-to-face meeting with a qualified adviser.
Retirees are a particularly vulnerable group, as many find themselves with big lump sums to invest. They may see the word “bond” and assume that the product offers a pro-mise that their money is safe. I urge all investors to think very carefully before making any decision and to be sure that they fully understand the risks.”
He can “urge” investors to think carefully until he is blue in the face but greed is a very powerful incentive. If all those firms which sold stockmarketlinked income bonds which are now under water have to compensate the majority of their clients, perhaps the only way forward is to ban direct sales of these products.
A much more realistic app-roach would be to insist that the institutions which market these bonds – largely the banks and building societies – offer faceto-face advice in the branches or sell through an IFA.