FAQ: Structured Investment Products

1. What is a structured product?

It is a specially designed investment product and is marketed under a special name that is coined by the issuer. It has certain special features that are described in detail in a prospectus.

Usually, the issuer will structure the product in a special way to give a return to the investor that is linked to the return on stocks, bonds or currencies.

Some structured products are similar to a gambling product. They require the investor to bet on the price movements of the underlying investments and to receive a high or low return depending on the outcome.

It is difficult for an ordinary person to calculate the probably of each outcome, for which they can get a specified return. The small investor may be unaware that they are getting unfair terms for the bet.

2. What are the common types of structured product

The common types are:

a) Credit linked notes
b) Equity linked notes
c) Currency linked notes
d) Capital protected notes
e) Capital guaranteed notes

They are also marketed under other names.

3. Are structured products good for investors?

These products are good for investors, if they are structured as follows:

a) Meets a specific and special need of the investor
b) Gives a fair return for the underlying risk of the product
c) Incurs a low cost in the design and marketing of the product
d) Is simple and clear to the investor

It is difficult to find any structured product in the market that meets the above conditions.

4. Are the structured products bad for investors?

The products are bad for investors, if they are structured as follows:

a) Is designed to behave like a gambling product
b) Gives a poor return for the underlying risk of the product
c) Incurs a high cost in the design and marketing of the product
d) Is complex and incomprehensible to the investor

Most structured products in the market have several of these bad features as they incur high costs and are designed to make profit to the issuer at the expense of the investor. They give poor value to the small investor.

5. Why do the structured products have a lock-in period?

A high cost has been incurred in the design and marketing of the structured products. The issuer usually require the investor to keep the investment for a specified period, e.g. from 3 to 7 years, to spread out the impact of the front end cost.

If the investor wishes to terminate the product before the maturity date, the termination value is usually much lower than the invested amount, as the issuer has to recoup the front end cost. The investor has to suffer a large loss.

If the investor keeps the product for the entire term, the return is likely to be low, due to the high front end cost.

6. What must the investor check before investing in a structured product?

The investor should check the following:

a) What is the return from the underlying investments?
b) What is the cost incurred in the design and marketing of the product?
c) What is the special feature of the product that adds value to the investor?
d) What is the lock-in period?

7. Does the regulator check that the products are fair to the small investors?

The regulator (i.e. MAS) requires the issuer to issue a detailed prospectus and to disclose the key features of the product. They do not make any assessment about the fairness and suitability of the product to the consumers. They expect the investors to understand the product and make their own assessment before investing in the products.

This approach has encouraged some issuers to introduce structured products that are give poor value to the small investors, but make good profit for the issuer.

8. Are capital guaranteed products suitable for the small investors?

If the investor wish to have a capital guaranteed product, it is best to invest in government bonds.

A structured product that provides a capital guarantee will usually give a lower return, compared to government bonds, for the following reason:

a) The underlying investments are usually made in government bonds or other investments of similar quality.

b) A high cost is incurred in the design and marketing of the structured product, which is taken away from the return earned on the underlying investments.

c) The net return to the investor is likely to be much lower than the return from government bonds.

9. What has been the experience during the past years?

Many thousands of investors had collectively invested billions of dollars into structured products over past years. Most of the structured products provided a return on maturity, which were much lower than the underlying investments.

The investors would have earned much more by investing directly in the underlying investments, such as equities, bonds or foreign currencies. In general, the structured products reduce their return, without giving any real value to the investors.

The structured products had made hundred of million dollars profits to the issuers and in marketing fees to the marketing intermediaries.

10. What is your recommendation?

If you are willing to take the risk and intend to invest for 10 years or longer, you should invest in a large, well diversified, low cost, equity fund. This is likely to give you an attractive return of perhaps 6% to 8% per annum (this is not guaranteed).

By investing for the long term, you are averaging out the good and bad years. You are reducing the risk by investing in a large, well diversified fund.

If you do not wish to take any risk, you should invest in government bonds to earn about 3% per annum.

Do not invest in a structured product. They are likely to incur a high cost, which is taken from the return of the underlying investments, without adding any real value to the investor.