View more on these topics

Guaranteed uncertainty

The earliest form of guaranteed equity products appeared around the end of

the 1980s. Since then, there have been a considerable number of

developments driven both by stockmarket conditions and by investor demands.

The two main product types are designed for growth and high income.

Guaranteed growth products had their heyday in the early 1990s. At that

time, they could offera 100 per cent capital guarantee plus full

participationin a market rise and often something extra besides, such as a

guaranteed bonus or market participation of more than 100 per cent.

Alternatively, some products offered periodic “lock-ins”, whereby a market

rise would be incorporated into the guarantee.

The returns are achieved with the use of derivatives. First, the provider

calculates the cost of providing the capi-tal guarantee. Then, whatever is

left over from the purchase price, after the provider&#39s own margin, can be

used to buy an option, which provides the market participation.

In the early days, market conditions were favourableand options were

cheap, hence the ability to provide returns of up to 125 per cent ofmarket


Today, the market is very different and participation rates have reduced

considerably. M&G&#39s Protected Isa, for instance, offers only 80 per cent of

market growth overa five-year term.

This 20 per cent loss of upside is a significant price to pay for peace of

mind, since one could normally expect the market to rise over five years.

It might suit someone who needed to be sure of the capital at a set time or

who was particularly risk-averse but the lower the participation rate,the

more limited the appeal. Anything less than 80 per cent would look very


High-income products are thus more common at present. With low interest

rates, they are also popular with investors although products usually offer

a growth option as well. Here, the cost of providing a return of capital

plus the income payments (or specified growth) is more than the purchase

price, so the difference is funded by selling an option on the index.

Because the option may have to pay out, the capital return to the investor

is not guaranteed. The current style – seen in recent issues from NDF,

Scottish Life International and AIG Life, for example – is to have dual


First there is a “soft barrier” of, say, 75 per cent of the index&#39s

starting level. Provided that this is never breached during the full term,

capital will be returned in full. Second, if the barrier is breached,

capital will still be returned in full as long as the index finishes at or

above its starting level.

This looks like a double layer of safety but you have to bear in mind that

if the index should fall below the 75 per cent level, it is an enormous

deficit to make up. It is also important to look at what happens if both

conditions fail.

With some products, the return falls rapidly – the so-called “precipice”.

A recent issue from Canada Life, for example, will return no capital at all

if the index falls by 50 per cent or more.

The first point to consider is the investment term. Broadly, the shorter

the term, the greater the risk of the market falling without recovering –

and the barrier level will usually be higher as well. Eurolife&#39s one-year

bond, for instance, hasa 90 per cent barrier.

Second, there is the choice of index. All that is required to return

capital is that the index should not fall, so stability with low returns –

perhaps the FTSE – is preferable to high growth potential with high

volatility – say, the Nasdaq.

Finally, there is the timing. With most products, the term actually starts

some time after the issue closes. The longer the gap, the lower the real

rate of income or growth over the whole investment period, compared with

the quoted headline rate over the term.


Portillo to be keynote speaker at IFP talks

Shadow Chancellor Michael Portillo will be the keynote speaker at theInstitute of Financial Planning&#39s annual conference this year.The Conservative MP for Kensington & Chelsea will focus on the FinancialServices and Markets Act among other financial services issues.The conference will be held at Warwick University from September 14-15 andwill include sessions on capital gains tax, planning […]

TUC pension chief backs trees

The Trades Union Congress predicts decision trees will be an effective wayof selling stakeholder pensions.The move goes against the majority view in the pension industry, whichbelieves decision trees will be confusing and lead potential stakeholdersto seek professional advice.But TUC pensions officer Joanne Segars claims there will be little roomfor one-to-one advice under stakeholder and decision […]

IFAs outraged as pension review chief gets OBE

IFAs are in uproar over the award of an OBE to FSA dir-ector of thepension review Ronald Devlin.FSA chairman Howard Davies has also been knighted in the honours list, amove seen as a reward for establishingthe regulator.But advisers believe Devlin has not served the public&#39s best interest.Devlin joined the FSA in 1997, having previously held […]

UK pension performance hits a flat note

UK pension fund returns fell flat at the start of the year, according toperformance measurement consultant The WM Company.Pension fund returns stood at -0.4 per cent in the first quarter of thisyear but still outperformed the UK equity index on average.Returns on the indexwere -3.4 per cent over the same period.The quiet beginning to the […]


News and expert analysis straight to your inbox

Sign up


    Leave a comment


    Why register with Money Marketing ?

    Providing trusted insight for professional advisers.  Since 1985 Money Marketing has helped promote and analyse the financial adviser community in the UK and continues to be the trusted industry brand for independent insight and advice.

    News & analysis delivered directly to your inbox
    Register today to receive our range of news alerts including daily and weekly briefings

    Money Marketing Events
    Be the first to hear about our industry leading conferences, awards, roundtables and more.

    Research and insight
    Take part in and see the results of Money Marketing's flagship investigations into industry trends.

    Have your say
    Only registered users can post comments. As the voice of the adviser community, our content generates robust debate. Sign up today and make your voice heard.

    Register now

    Having problems?

    Contact us on +44 (0)20 7292 3712

    Lines are open Monday to Friday 9:00am -5.00pm