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Defensive Products in Uncertain Times - 26/10/2016

On the 27th June 2016, the FTSE 100 closed at 5982.20. Since then the index has been on an upward trajectory, hitting an all-time high of 7097.50 on the 10th October 2016. At the time of writing the FTSE is trading at 6952; down 145 points from its all-time high, yet 970 above the level recorded on the 27th June 2016.

Understandably it comes as little surprise to many involved within the financial sector that private investors, over the last few months’ have proven to be both, sceptical and pessimistic when it come’s to investing their hard earned cash.

Unlike many investments, defensive structured products can prosper in both bull and bear market conditions, providing both capital protection up to a certain percentage fall in the stock market and potentially still providing a gain, in some cases even if the FTSE were to fall up to 50% over the next six years.

Since 1995 we’ve been actively using and extensively researching retail structured products and we believe this wealth of knowledge and experience makes us one of the leading experts in selecting the best of the rest. Our panelled products are those that we believe are the best on the market and we actively use them within our clients’ portfolios on a day to day basis.

We believe diversification is the key to a good portfolio, however if we wouldn’t personally invest in a product ourselves then we won’t panel it.

A reasonable current example is the Investec FTSE 100 Defensive Growth Plan 7 (Investec Option) which is a maximum six-year defensive plan offering the potential of 34% over the six-year term, provided the FTSE 100 doesn’t fall by more than 50% over the full term. The Final Index Level is defined as the average index level over the last six months of the plan and so the investment will produce a loss from market movements only if the average of the final six-month period is less than 50% of its Initial Index Level.

The most common defensive feature offered in the market currently is utilised within kick-out or auto-call contracts where, a 5% incremental decrease applied at the annual anniversaries of the plan. Typically, the second year reference level will be 100% decreasing by 5% on each yearly observation date to 80% in year six. Currently, our panel contains five such product with coupons ranging from 6% to 8.25%, a significant difference of 2.25%, so why are they different?

First, if we shall examine the capital protection barriers. Three of the defensive kick-outs on our panel make use of a 60% barrier, of which, two are observed at the end of term only and one is taken as an average over the final six-month term of the plan. The Walker Crips Annual Step Down Plan Issue 2 (Kick Out) which offers the lowest potential coupon of 6% does so, in part because it provides greater market protection, with a barrier that dictates that a loss will only occur from market movements if the plan fails to mature early and the FTSE loses more than half its value over six years.

Those willing to take more risk could consider the Investec FTSE 100 Step Down Kick Out plan 7 (Investec Option) which offers the highest potential coupon of 8.25%. Whilst this plan also has a 50% barrier an important distinction is that this is observed at the close of business on each day rather than just on the final day. In theory, such a barrier could be breached during the term and ultimately have no bearing because the stock market subsequently recovers but it is undoubtedly higher risk. This has played a significant part in the resultant higher coupon.

Another significant bearing on the coupon a product offers is the counterparty to the plan. No matter how unlikely it may be, the higher the perceived potential risk of the counterparty defaulting the greater the potential reward should be for accepting the risk.

The product offering 8.25% has Investec Bank as the counterparty. That bank is ‘BBB’ rated by rating agency Fitch, indicating that adverse economic or business conditions could impair the banks’ ability to meet its obligations. The Walker Crips product offering 6% for each year held has HSBC Bank as the counterparty and they are rated AA- by Fitch indicating that they believe the bank has a strong capacity to meet its obligations and default risk is very low.

Some of the other plans currently on panel utilise a collateralised structure where the plan securities are issued by one bank and the default risk is effectively transferred to a basket of alternative financial institutions thereby reducing the chance of a catastrophic loss arising from a single institution’s failure.

Another way of potentially reducing the risk with an auto-call contract is to extend the maximum potential investment term thereby giving more opportunities for gains to result. This is achieved with the Mariana 10:10 Plan, an investment conceived with input from use here at Lowes Financial Management, and developed in co-operation with Mariana Capital Markets LLP as plan manager.

The 10:10 Plan is a unique product on the market, offering an investment term of ten years’ maximum. Option 1 of the Plan has the potential to reward investors with a 7.3% gain per year, payable from year three onwards providing the FTSE 100 Index closes at a level equal to or higher than 90% of the initial index level. The extended term is a feature that provides more opportunities for a favourable maturity by allowing time for the market to recover from an unexpected downturn.

The counterparty to the 10:10 Plan is Societe Generale but the bank’s collateralisation programme then diversifies the credit risk across four other major international banks; Macquarie Bank Ltd, Lloyds Bank Plc, Standard Chartered Bank and Santander UK Plc. All of these banks are rated ‘A’ or better by Fitch.

Investors may seek to combine several or even all of these products in a portfolio. This would diversify the risk across many counterparties, provide three different types and levels of capital protection barrier and a number of different strike / start and maturity observation dates.

It is of course possible that none of these products are suitable or appealing – there are many more listed on


This article should not be construed as advice or a recommendation to invest. An investor should not rely upon our opinion but should conduct their own analysis or utilise an adviser. All investments involve risk and you could lose some or all of the money you invest. It is imperative you read the Plan brochure and terms and conditions and understand all of the risks prior to proceeding. If you do not fully understand the risks, the commitment or are unsure as to the suitability of the investment for you, you should not proceed but instead contact us. Our advisers will be happy to help advise on the correct product for your portfolio. Alternatively, if you require more information on any of the products discussed you can contact us.

Disclosure Mariana

Lowes has provided input into the concept, development, promotion and distribution of the 10:10 Plan. The provider’s charges/fees are built into the terms of the investment – Lowes has a commercial interest in the plan as a result of its involvement in its development and promotion. All plan returns are stated after allowing for the provider’s charges/fees. The aim of developing plans in co-operation with providers, with Lowes input, is that they should be amongst the best available in the market – and, as such, be granted ‘preferred’ status, on their merits. Lowes has robust systems and controls in place to ensure that it manages any actual or potential conflicts of interests in its activities.

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