Ian Lowes, founder of StructuredProductReview.com, points out the main three types of structured products are: structured deposits, structured capital ‘protected’ products and structured capital-at-risk products.
Structured capital ‘protected’ products and structured capital-at-risk products are referred to collectively as structured investment products.
1) Structured Deposits
These are essentially fixed-term deposit accounts where, instead of interest being earned at a set or variable rate, the return is fixed but depends on the performance of the underlying asset, such as the FTSE 100.
So, for example, a deposit plan might offer 20 per cent return on the capital after three years as long as at the end of the investment term, the FTSE 100 is at or more than the level at which the investment started.
While nothing is completely risk free, Mr Lowes says structured deposits are designed to return investors’ original capital as a minimum at maturity.
As with most UK deposit accounts, he says structured deposits usually include the potential benefit of protection should the deposit taker become insolvent during the investment term.
This protection is provided by the Financial Services Compensation Scheme and UK eligible claimants have a right to claim up to £85,000 per individual per institution in such circumstances.
The availability of such compensation is, however, dependent upon the investor’s eligibility as defined under the terms of the FSCS.
Mr Lowes says structured deposits are proving popular in the current low interest environment as they can offer stock market-linked returns with the surety that whatever the market does, the investor’s capital will be returned in full.
Often, he says the market only has to be at or more than the strike level by any amount no matter how small, for the full return to be paid.
Hence, using the example above, Mr Lowes says if the index was at 5800 and in three years it as at 5801, the investor receives the 20 per cent return.
The market risk the investor takes is that the underlying reference, usually an index, falls below the strike point during the term and does not recover, so no gain is achieved.
2) Structured Capital ‘Protected’ products
Structured capital ‘protected’ products are like structured deposits in that they are designed to return the original capital at maturity as a minimum.
However, like structured capital-at-risk products they are often structured as loans to a bank or other financial institution.
The returns outlined for any structured capital ‘protected’ plan, including the return of capital, are dependent upon the counterparty, usually a major bank, remaining financially solvent for the full product term.
In the most extreme circumstance of the relevant counterparty being declared bankrupt and/or being unable to meet its liabilities, Mr Lowes warns investors may lose all of their original capital investment.
This is because these products do not have recourse to the Financial Services Compensation Scheme for institutional default.
3) Structured Capital-at-Risk products
Structured capital-at-risk products are the most prevalent in the market, according to Mr Lowes.