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Capital Protected Investment Products

By Marcus Elliott,2014-05-18 01:58
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3 Jun 2004In the current era of low interest rates many people with funds surplus to their immediate requirements are seeking investment products

    Capital Protected Investment Products

    By Noel Minogue*

In the current era of low interest rates many people with funds surplus to their immediate

    requirements are seeking investment products which have the potential to generate higher returns

    than standard deposits. However, many of these potential investors do not wish to or are not in a

    position to risk any loss to their capital. Traditionally the “With Profits” products were the

    investment option which many such investors availed of. During the 1990’s the Tracker Bond

    became popular and it now dominates the Capital Protected market segment. During recent years

    the variety of Tracker Bonds available in the market has increased substantially and what was

    originally a fairly simple product has now become much more complex.

In this weeks article I will look at the range and variety of Tracker Bonds available in the market

    today.

What is a Tracker?

    The consultation paper produced by the Irish Financial Services Regulatory Authority on

    “Review of the Marketing and Sale of Trackers” defines Trackers as follows:

    “Trackers are investments, which promise a financial return of a specified percent of the

    original capital (amount of cash invested at the beginning) at the end of a chosen term.

    They also give a cash bonus of a specified percent of the rise if any, in a particular stock

    market index / indices or basket of stocks. They “track” the chosen basket of indices or

    stocks and the bonus reflects how well that basket has performed”.

The original basic Tracker offered 100% capital protection and a fixed percentage of the increase,

    if any, of the capital value of a particular index over generally a five-year period. The above draft

    definition shows how more complex Trackers have become over the years:

? The definition refers to a return of “ a specified percent of the original capital”. While for

    many Trackers this specified percent is 100%, this is not the case in all Trackers. Some

    Trackers protect less than 100% of the capital, e.g. 80% or 90% capital protection. Clearly it

    is essential that potential investors are fully aware of the level of capital protection being

    provided by any particular Tracker in which they are considering investing.

    ? Returns from Trackers can be linked in a variety of ways to stock market performance, rather

    than the direct participation in an index performance that applied to the original basic Tracker.

    Today, Tracker returns can be linked in a complex way to a basket of indices or individual

    stocks. It is important for the investor to understand the degree of linkage that applies to the

    underlying investment basket and in particular how this investment basket is valued.

    ? In some areas the above definition is not sufficiently broad to capture some of the Tracker

    products available on the market;

    - Trackers historically were for a fixed period but more recent Trackers can be for varying

    time periods depending on performance, e.g. a six year tracker can mature after three

    years if certain performance levels are achieved.

    - Some of the more complex trackers can have a changing rate of participation in the

    underlying investment basket over the life of the Tracker. For example, there may be a

    100% participation at the outset but this participation can vary over time, increasing if the

    underlying investment basket is performing well and reducing if the basket is performing

    poorly. At the extreme the participation rate could go to zero, resulting in only the original

    capital being paid at maturity.

In summary, a basic Tracker is a fixed term investment giving a 100% capital protection and a

    return that is a specified percentage of the performance of a particular stock market capital index

    over the fixed term. However, investors should be aware that there is now a comprehensive

    range of products with varying features available that are marketed under the general banner of

    “Trackers”.

In next week’s article I will look at the most common features applying to Trackers and discuss

    their implications.

* Noel Minogue, AIB Investment Managers (AIBIM).

    AIBIM is a member of the Irish Association of Investment Managers. AIBIM is authorised

    by the Irish Financial Services Regulatory Authority under the Investment Intermediaries Act, 1995.

Published: Irish Independent 3 June 2004

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