Liontamer Soapbox

Meagre returns and comparisons to trackers

This week's soapbox was inspired this week by the Sunday Star Times - if you missed the business section, Liontamer's SUPERgrow 150 investment was the focus of attention. A full copy of the article is on our website. For a direct link click here

SUPERgrow performed admirably, with some extremely positive comments about both the product and our company. This particular column offers a very balanced opinion each week and always raises a few points of interest when looking at an investment.

There were a couple of points which inspired us to jump on our soap-box and develop the debate a little further:

A. 9% annual return
Is it a meagre return? With SUPERgrow 150, returns are accelerated by 50% on top of the index returns. However, the maximum achievable return is 100% (double your money). Over 8 years, this works out at 9% a year. Given there should be tax efficiency, the return is impressive. But the question still arises "will investors be happy with this return if the markets go on a bull run?" To our mind, even asking the question means the point has been missed. SUPERgrow 150 has not been designed to fulfil the role of standard international equity - these expose investors to high levels of risk in return for high potential returns. A structured product alters the risk/return payoff quite dramatically. SUPERgrow 150 has built in protection combined with accelerated returns and unlike a traditional fund, it will outperform in a low to medium growth environment. This investment simply doesn't compete with other international equities - it should be used in conjunction with them, to enhance the dynamics of a portfolio.

At the end of the day, if you do really want to debate whether 9% p.a. is adequate, we think common sense should prevail. Investors need to have realistic expectations and it would a brave person who leads their clients to expect that some of the excesses of the past will definitely be repeated. At the same time though, client portfolios need to be positioned to take advantage of all outcomes - low to medium growth, where SUPERgrow 150 could win hands down, or high growth where EASYgrow 85 and actively managed funds will be the heroes of the day. While some advisers like to hold strong views on the market, once again, it's a brave adviser who will ignore the range of possible outcomes.

B. Comparisons to un-hedged tracker funds
One of the very favourable points picked up by the Sunday Star Times, was that Liontamer investments were hedged back into NZ dollars. This makes quite an enormous difference to the risk profile of the investment and the type of client it is suitable for. The article went on to say that investors might like to use it in conjunction with a passive tracker fund like the AMP WiNZ fund. On the contrary, we think investors would be far better off using SUPERgrow in conjunction with EASYgrow 85 (full protection and 85% of the rise of the MSCI) as well as a collection of actively managed international equity funds.

Now is probably a good time to run through 4 major advantages which a structured investment has over a standard tracker:

1. Currency risk
Structured investments can be hedged perfectly back into NZ dollars due to the closed-end nature of the investment. This makes massive differences in the risk profile. Take the example used by the Sunday Star Times, the AMP WiNZ fund. Over a 3 year period to 31 August, the fund has losses of -21.73%† a year before tax or charges. That works out at -80% over 3 years. The MSCI World Index has actually only fallen 34%* in the same space of time. Likewise over 1 year, the index has risen 9%* and the tracker has fallen over 10%†. While this fund has been very severely affected in a negative sense, currency fluctuations can of course go both ways. The question you need to ask is whether your clients really need the additional risk of taking a punt on the currency - especially given the volatility of the NZ dollar. Currency exposure significantly alters the risk profile of an investment and can result in the returns being enormously different from the asset you were trying to gain exposure to. The returns, whether positive or negative, can vastly change what you were setting out to achieve and you need to consider whether this 'surprise factor' is appropriate for the majority of NZ retail investors.

2. Annual management fees
These should be nil with a structured protected, whereas traditional trackers charge an annual fee.

3. Tracking error
A structured investment has no tracking error at all - they mirror the exact returns of the index. A traditional tracker will have a tracking error and the size of this can depend on whether they partially replicate the shares in the index or fully replicate, which can have higher dealing costs.

4. Far lower market risk
If you hold a structured investment to maturity, you will receive the benefit of full or partial capital protection. When it comes to international equities, market risk can be quite volatile. While some argue that 'the ride' is not important, anyone who has dealt with retail investors knows otherwise. The risk they are exposed to along their investment journey is crucial to them. Their savings are very personal and because of that they have an emotional response to negative returns. We refer here to the classic 'panic sell'. Selling when the market goes down and buying when it has peaked is 'emotional trading' and has a significant impact on long-term returns. A structured product with built-in protection removes a lot of the emotional decision making and associated costs.

* Source:www.msci.com - World Index level 29 August 03 = 905.32 / level on 30 August 02 = 830.58 and level on 31 August 2000 = 1379.87.

†Source: www.amp.co.nz