The benefits of having structured products priced without initial commission have been obscured by the terrible pricing environment we are in, with interest rates and market volatility at all-time lows, but the effective charges on most products are below 0.5% per annum at the moment.
If this reduction is coupled with the savings that can be made by using factory gate-style products in conjunction with existing platforms, investors will do even better than in the past when, contrary to what some commentators would have you believe, performance was extremely good.
To put it into context, a FTSE 100-linked autocall of 6% per year paying 3% initial commission to an IFA would pay nearer 8% or 9% if the commission was used to enhance the payoff.
The structured product sector has been dominated by packaged products since the 1990s. Initially, these were mostly insurance contracts taking advantage of tax-efficient structures and latterly they have been in the form of plans either inside or outside Pep/Isa/pension wrappers.
The plans work broadly in the same way, an underlying wholesale-style investment is promoted by a plan manager and investors open an account with the plan manager which holds the underlying investment.
This structure was designed to deliver institutionally-priced investments to retail investors at the lowest possible cost. The layer of costs added by the plan manager (typically 1-2% over a five-year investment period) was not unduly expensive.
Holding a plan on a platform, however, is not a comfortable fit for anyone. As well as adding an extra layer of cost unnecessarily, it was also unsettling for the platform, whose role is to act as a nominee holding the assets on behalf of an investor and who now has an agreement with another entity that hold responsibility for the assets.
One of the practical problems of the plan manager route has been amply demonstrated by plan manager collapses over recent years. The underlying investment can be performing well and delivering the promised returns, but practical issues such as delayed income payments, random statements and now a proposal for swingeing additional charges have been to the detriment of investors and advisers alike.
New regime
The past 12 months have seen more providers and advisers using factory-gate solutions for their investors; the structures that used to be held in plans are now being bought on the investor’s behalf by a variety of platforms. This should be safer – there is no plan manager to go bust in the middle – and also deliver better returns to investors.
Structured products have not traditionally sat well on platforms; the lack of a regular valuation feed as well as different purchasing paths has been a problem. Although this is less of an issue for newer platforms, the charging structure of structured products (all fees taken up-front) did not suit some of the older platforms whose financial models were based on regular fees being paid by the available funds.
Since the RDR, platform charging structures have changed considerably and the model whereby clients pay explicit costs to the platform looks like prevailing. This model is well suited to factory gate-style structured products.
There has been movement towards platform compatibility from structured product manufacturers as well. Regular valuations are provided as a matter of routine today on almost all structured products, and although there is not yet a fully efficient secondary market, bid prices provided by issuing banks are generally fair. Even in the depths of the banking crisis in late-2008, structured products remained liquid for clients.
More structured products are arriving in fund structures, including Ucits, that can sit perfectly on all platforms and although the costs of these may be slightly higher, the added benefits (removing counterparty risk, suitable for offshore bond holdings etc) can outweigh them.
Overall, structured products should be delivering much better value for clients because of the removal of commission charges and, increasingly, plan management charges. But the current pricing environment is more difficult than it has ever been, so these benefits may not be obvious.
More and more products will be designed to sit directly on platforms that will become more accommodating to factory- gate investments.
The amount invested via plan managers is likely to reduce as a result.
