Capital guaranteed & capital protected
Complex structured products
Providers of 'capital guaranteed' and 'capital protected'
structured products usually promise to at least repay your original
investment at the end of a minimum period. However, the nature of
the protection varies and some products have clauses and
performance hurdles that may even lead to the loss of your
capital.
This page explains what capital protected and guaranteed
products are, and the limitations and costs associated with their
promises and guarantees.
What are capital guaranteed and
capital protected products?
Structured products promoted as having capital guarantee or
capital protection typically combine a 'safe' and a 'risky' asset
into one product structure.
For example, a safe asset, such as a bond, enables the issuer to promise the return at
maturity of at least some, or all, of the investor's original
investment. This feature is promoted as the 'capital protection',
or sometimes the 'capital guarantee'.
These assets may be packaged with a risky derivative investment such as options. The derivatives are used to
create some level of participation in the performance of shares, commodities or other assets. The
value of the investment at maturity depends on the performance of
these 'reference assets'.
This is an example of how one of these products may be
structured. Other products may have different asset class exposure
as well as different terms and conditions that apply to the
repayment of your capital as well as any investment returns. These
differences make it difficult to compare these products.
Not bank deposits or annuities
Capital guaranteed and capital protected structured products
should not be confused with more conservative investments that may
also be described as 'protected' or 'guaranteed'. This includes
life insurance annuities, savings accounts and term deposits
with an APRA regulated bank, building society or
credit union.
Capital guaranteed and capital protected structured products are
not:
- protected accounts subject to the government's deposit guarantee
- guaranteed annuities, which are provided by APRA-regulated
entities
- 'capital guaranteed' superannuation funds.
Warning
With capital guaranteed and protected products, higher promised
returns usually come with higher risks. We recommend that, before
you invest, you take extra care to understand the nature and risks
of these complex structured products. If you don't understand how
the investment and capital protection is structured and how
promised returns are achieved, you should not invest.
Can any investment be
guaranteed?
The labelling or description of these structured products can
create a perception of safety that, in some cases, is inconsistent
with the product's features and risks. There are often significant
qualifications and conditions associated with the 'guarantee' or
'protection'.
Some products promise that you should get back at least the
dollar value of your initial investment even if financial markets
turn sour. For example, a capital protected investment linked to
the top 200 Australian shares may pay investors a return equal to
80% of the cumulative growth in the S&P/ASX 200 share index
over 5 years. The promise is that even if the index makes a
cumulative loss over this time, you will still get back the
original amount you invested at the end of the 5 years.
But no investment is 100% secure. In certain extreme
circumstances, for example, if the company providing the guarantee
goes belly-up, you can still lose money with these investments.
Another type of more complex investment, also linked to shares,
may pay investors an agreed rate of interest that is typically
higher than conservative investments, such as term deposits.
However, the value of the investment at maturity may be linked to
the performance of shares, so your capital is not protected and the
risks are much higher.
Before you invest, make sure you understand the return being
offered and whether it will compensate for the risks and what, if
anything is being protected.
See goals and risk tolerance and
risk and
return for more information about understanding and managing
risk.
Case study: Don considers a 'capital at risk' product
Don is the trustee of his
own self-managed superannuation fund (SMSF). He wants to maximise
his fund's returns, so he looks for an investment that will pay
more than his fund's term deposit account. He heard about a
structured product that was promising returns of 8% a year.
When he looked at the product in detail, he discovered that,
despite the 'guaranteed interest rate' and 'conditional capital
protection', his capital would only be returned if none of the
underlying shares fell by 40% or more. He was also suspicious about
how the returns were generated. Even his financial adviser had
trouble explaining the product to him. Don also thought that the
fees were not transparent. Don decided not to invest for these
reasons.
Weigh up the benefits and
risks of capital guaranteed investments
Even if you are confident of the security of the guarantee or
protection, you need to weigh up the cost of the product against
the benefits it can provide.
Structured products vary from short-term to long-term
investments (approximately 1 to 10 years). Early redemption may be
possible. However, break costs (based on the current 'mark to
market' value of the embedded derivative), exit fees and a
cancellation of the capital protection feature also often apply.
Some issuers only allow redemptions on a monthly basis and, in some
cases, redemptions can take 6 to 8 weeks.
Any capital protected investment linked to an investment market
is usually only guaranteed or protected if you leave your money for
a set period of time (often 5 to 10 years). If you want to invest
for this time period, a diversified share investment may give you
similar returns, and may cost you less.
While some structured products have a much shorter timeframe,
for example, 1 to 2 years, capital may be at risk rather than
protected. Inflation can also eat into your capital even if falling
investment markets don't.
For example, imagine you invested $100,000 and under the
'capital guarantee' you got your money back in 5 years. If annual
inflation was 3%, an investor would want to receive at least
$115,927 on an original investment of $100,000 at the end of 5
years, to keep pace with inflation.
Read the investor guide
Before you invest, read the investor guide
Get the facts: Capital guaranteed or protected investments and
ASIC's Report 340, 'Capital protected' and 'capital
guaranteed' retail structured products.
Investments promoted as having capital
protection or capital guarantees might sound safe, but the labels
can be misleading. They are more complex than many other types of
investments and the risks can vary between products.
Related links
Last updated: 24 Oct 2018
