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The Rating Game Print E-mail

By Paul Harrison – 1ST Policy

I would like to highlight one investment product, which is almost always overlooked when faced with all too familiar question set out below:

Q. Is there anywhere where I can put my money where it will be as safe as the bank or building society but has the possibility of providing a higher return, than the paltry interest rates currently on offer?

This problem is not confined to British Shores, in truth it is an international problem. In fact, an initiative of ‘disinvestment’ seems to be the order of the day in many parts of the world. Uncertainty is so rife in some European countries, that investors are literally withdrawing monies from deposits in order to purchase short term German Bonds, on wait for it.... negative yields!

This sort of damage limitation may seem severe but it just goes to show how desperate many investors are right now to ensure that their money is held by a reputable country. The ratings company Standard and Poor’s provides a publically accessible rating service for various institutions including countries themselves. Since Germany has been awarded the top rating of AAA, it becomes an obvious choice especially for Europeans since they remove any currency risk by keeping their investment in Euros. Outside of Europe, the Far East for example may sight the US Dollar or Pounds Sterling as a stronger or more stable currency given the ongoing austerity measures being continually implemented within the Euro Zone.

Historically the US Dollar would have probably been the forerunner but with the USA being controversially stripped of their AAA status and downgraded to AA it’s not as clear cut anymore. The United Kingdom on the other hand has retained its AAA rating and for the foreseeable future, its own currency.

Having identified the UK as a viable option in terms of currency and rating, we can then take a look at the investment options within that sector. You may think that this list would be practically endless but when we consider the original question from the first paragraph of this article the list is soon whittled down. For a start, we are really only looking at products which can demonstrate similar security to the banks or building societies. We also have to consider the ratings of those companies.  So by a process of elimination the list is reduced rather quickly to only a handful of investment options.

Outside of the Banks and Building Society deposits in the UK there are very few guaranteed products on offer anymore. There are many products which at a first glance appear to be carry a guarantee but on further investigation there is always a catch, or to be more polite, a condition. The guarantee is guaranteed as long as a particular condition is met. These conditions can take many forms from a stock market cap to an interest rate collar but they are conditions none the less.

You could of course invest in UK government treasury bonds or gilts as they are commonly referred to but with even the 5 year rate standing at less than 1%, it’s hard to see why you wouldn’t just hold the money on deposit. That said, the rate is higher than the German equivalent and they are backed by the AAA rating of the United Kingdom itself.

So, if we first turn our attention to institutional risk we may think that Insurance Companies are worth a look since there are a number of Life Offices which still have Standard and Poor’s ratings of A and above. The problem is that the insurance companies themselves don’t offer guaranteed products any more. Gone are the traditional ‘with profit’ policies which once graced the investment arena. They have been replaced with the new breed of ‘unit linked’ investments.

Intriguingly there is still a way of accessing the traditional ‘with profit’ polices by, low and behold a ‘second hand’ market. That’s right just in the same way as stocks and shares or property can change hands so can insurance policies. Unlike shares or property though these traditional insurance policies carry with them one invaluable difference, they all contain a guaranteed minimum payout.

At this point I should clarify the words ‘second hand’ as this would imply that one has to scan the classified ads in order to find one. This is a far cry from reality. In actual fact investment in this area is a slick operation these days with companies such as 1st Policy Company Ltd (UK) and TEP Pte Limited (Singapore) produce regular stock lists of available policies. A potential investor need only decide how much he wants to invest and when he wants his investment to mature. These ‘second hand’ policies are actually known more accurately as Traded Endowment policies (TEP’s) in the UK. So that is how we will refer to them from here on.

Outside the UK very little is known about this market so it is largely untapped but it seems to tick all the boxes in many respects. Even the institutional risk is somewhat negated because the guaranteed minimum payout is in itself covered by what is known as the Financial Services Compensation Scheme (FSCS) this is a government backed initiative which basically says that if the Life Office were to by declared insolvent they will cover 90% of the value of the policy. Interestingly this compensation is not limited to UK citizens or indeed the original policyholder. It covers the owner of the policy at the time of insolvency.

In truth the above scenario has never been exercised and you wouldn’t expect an ‘A’ Rated company such as the Prudential for example to file for bankruptcy especially since the Financial Services Authority (FSA) which is the government backed regulatory authority lays down strict guidelines regarding solvency margins which must be adhered to. They are also regularly assessed.

TEP’s available in today’s market include Prudential, Aviva, Legal & General and Royal London all of which boast a Standard & Poor’s rating of A or above. The guaranteed minimum payout is unique to each policy and is clearly stated on the stock lists. But let’s not forget this is only the minimum payout. The current maturity payouts are far and above the guaranteed minimum payout. Details of current maturity payouts can also be requested at the time of purchase. So there you have it these policies are not merely robust they should also prove fruitful.

 
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