Top 10 tips when selecting your investment plan

Top 10 tips when selecting your investment plan

09 July 2013 / by Oliver Roylance-Smith

Whether you are looking for income or growth from your investment, deciding what factors to consider when comparing different investment plans can be a challenge. Over the years, many of our customers have selected a structured investment plan because of the defined returns and defined risk that can be considered fully prior to investing. We therefore give you our Top 10 tips when considering which investment plan to select as well as provide you with our selections from our current range on offer.

1.  Past performance is not a guide to future performance

When it comes to investing you will frequently come across this particular risk warning and it is vital to remember that the message is of paramount importance. Don’t get too caught up by how the investment would have performed since this will not necessarily bear any relation to what happens in the future, whether it is simulated performance data or the actual past performance (for example, the FTSE 100 Index).

However, what past performance can do is help you form your view of what might happen in the coming years so that you can weigh up the pros and cons of a particular investment plan before committing your capital.

2.  Always consider risk and reward together

An investment dependent on the performance of an Index is considered less risky than being based on a basket of 20 shares since the Index represents a more diversified and larger number of shares. Equally, investing in 3 shares would be considered more risky than 20 shares since your investment is more concentrated on the outcome of a smaller number of shares. The more concentrated the underlying investment, the wider the range of potential upside and downside - therefore you should expect to be compensated by having a higher potential yield/headline return for the increased risk you are taking.

-    FTSE 100 Index selection: Investec Enhanced Kick Out Plan »
-    Larger basket of shares selection: Morgan Stanley UK Giants Selector Plan »
-    Small basket of shares selection: Start Point Top 3 Autocall Plan »

3.  When comparing ‘kick out’ plans, check the earliest maturity date

Plans that can mature early or ‘kick out’ are consistently popular with our investors since they can offer the opportunity for a competitive return whether the market stays relatively flat, goes up or even goes down slightly. The investment can mature early provided the index is higher than it starting value so can produce a return even if the market has only gone up by a very small amount.

Remember that the headline rate of return is not compounded and also watch out for the earliest date the investment can kick out - some offering the potential for higher headline returns or available from institutions with higher credit ratings can only kick out from year 2 onwards or later rather than the first year.

-    ‘Kick out’ plan selection – Investec Enhanced Kick Out Plan »

4.  Consider ‘defensive’ options

The recent levels of the FTSE have also seen an increase in the number of so called defensive plans. The term ‘defensive’ normally relates to a reduced or decreasing level which the index has to reach in order to provide a return, thereby offering the potential for returns even in a slightly decreasing or falling market. 

Be careful to understand exactly what the use of the word defensive means in the plan - in particular the amount the index is able to fall to still provide the stated return as well as the when the reduced levels take effect. Always consider whether the reduction in return on offer fits with your view of what could happen to the underlying investment in the future.

-    Defensive plan selection: Morgan Stanley FTSE Defensive Kick Out Plan »

5.  Understand counterparty risk

Your investment is used to buy securities issued by the counterparty as it is these which are designed to produce the stated returns. To this end, you need to understand that you are holding securities in a bank (or private bank) and so the possibility of that institution becoming insolvent should be an important factor in making your decision.

Broadly, those with a higher credit rating will offer lower returns than those with lower credit ratings since with the latter you are taking more risk in terms of the potential for default and therefore need to be compensated with the potential for higher returns. Some plans offer more than one counterparty option whilst others will offer to diversify this risk by using a portfolio of securities split between a number of institutions, thereby spreading your counterparty risk equally across each one. Remember that investment plans are not covered by the Financial Services Compensation Scheme for default alone.

6.  Make full use of credit ratings agencies

The use of credit ratings agencies has become much more prominent in recent years in order to help investors understand the risk of the counterparty being unable to pay any returns due to experiencing severe financial difficulties.

You should note that these are only ratings and that they cannot take into account every single factor that could affect your investment. However, surveying all three of the main agencies (Moody’s, Standard & Poor’s and Fitch) should give you a reasonable understanding of the counterparty risk involved since they each have their own research methodology. When putting together our product fact sheets wherever possible we use the same agency (Standard & Poor’s) so that you are comparing like for like.

7.  Understand conditional capital protection

One of the features which sets these investments apart from other investments (e.g. funds) is that they include what is known as conditional capital protection. This means that your initial investment will be returned to you unless the underlying investment falls below a certain level, a level which is known to you at the outset and before investing.

With plans linked to the FTSE 100, this is commonly 50% of its value at the start of the investment and if the Index ends up lower than this, your initial investment will be reduced by 1% for each 1% fall and so these investments should only be considered if you are prepared to lose some or all of your investment.

Watch out for the level that must be breached before your capital is put at risk and whether this is tested throughout the investment term or only at the end. Those offering the higher returns will normally monitor this throughout the investment term but also remember that past performance is not a guide as to what will happen in the future.

8.  Be careful of the use of averaging

The majority of investments are based on the underlying index being higher or lower than a particular level which is usually set at the start of the investment. Some investment plans will use averaging in calculating whether your investment has met the required level and so it is important to understand how this works.

Longer periods of averaging can reduce the adverse effects of a falling market or sudden falls shortly before maturity, equally they can also reduce the benefits of a rising market or sudden market rises shortly before maturity.  Either way it is important that you are clear of how this could impact the potential returns on offer and/or your return of capital.

9.  Maximise any tax breaks but watch any deadlines

All of these investments are available as a new Stocks and Shares ISAs (Investment ISAs), with the full allowance of £11,520 available for the current 2013/14 tax year. These investments also accept ISA transfers from both Cash ISAs and Investment ISAs taken out in previous years. Note that if you transfer a Cash ISA into an Investment ISA you cannot transfer it back into a Cash ISA at a later date. This information is based on current law and practice which may change at any time.

Since these plans normally run in tranches and are available for investment for a set period only (usually around 4-6 weeks), make sure you are aware of when the investment deadline is and apply in good time. If you are transferring existing ISAs the deadline for receiving these applications will be earlier in order to leave sufficient time to request and obtain the funds from your existing provider – again, make sure you check the latest date these can be received.

10.  Commit for the full term

These investment plans are designed to be held for the full term. Although you can obtain a surrender valuation at any time, the secondary market for these types of investments is very small and so you are in no way able to guarantee that you will receive your original investment back. Therefore, before you commit, make sure you have enough money set aside for emergencies in accounts where you can easily access the funds.

Matching your investment with your knowledge and experience

Overall, it is important to make sure the underlying investment, the potential upside on offer and the risk to your capital reflects your views and investment knowledge and experience to date.

Equally, if you have an increasing knowledge and experience of investments make sure you are aware of all of the options available. This is a growing market with a widening depth of choice the more experience you have. To this end we have an experienced investor section designed for existing customers and other experienced investors.

Current market offering

The current market includes a large number of counterparties, multi-bank and collateralised options, a choice of underlying investments as well as ‘defensive’ plans. Provided you are prepared to put your capital at risk, there is a wide range of potential headline returns on offer dependent on your appetite for investment risk. Balanced with the conditional capital protection on offer and the market for defined risk and defined return provides a variety of investment plans from a number of providers bringing the investor plenty of choice.

Click here to compare income investments »

Click here to compare growth investments »

Click here to visit our experienced investor section »

No news, feature article or comment should be seen as a personal recommendation to invest. Prior to making any decision to invest, you should ensure that you are familiar with the risks associated with a particular investment. If you are at all unsure of the suitability of a particular investment, both in respect of its objectives and its risk profile, you should seek independent financial advice. Tax treatment depends on your individual circumstances and may change.

These are structured investment plans that are not capital protected and are not covered by the Financial Services Compensation Scheme (FSCS) for default alone. There is a risk of losing some or all of your initial investment. There is a risk that the company backing the plan or any company associated with the plan may be unable to repay your initial investment and any returns stated. In addition, you may not get back the full amount of your initial investment if the plan is not held for the full term. The past performance of the FTSE 100 Index is not a guide to its future performance.

© Fair Investment Company Limited