IFSRA and geared tracker bonds

According to recent articles by Niall Brady in the Sunday Tribune and Eoghan Williams in the Sunday Independent, ACC Bank has been lending money to its customers to invest in tracker bonds. Irish Life is due to launch a similar product in the coming days.

According to Niall Brady:

An IL&P spokesman said the product had already been submitted to the Irish Financial Services Regulatory Authority for approval, adding that the government’s financial watchdog had not raised any concerns about consumers borrowing to invest in products that are linked to stock market performance.

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Eoghan Williams says:

Speculation is intense that similar loan schemes are under investigation by IFSRA. Irish Life says it has submitted its plans to IFSRA and has net no objection. IFSRA has a policy of not commenting on its investigations, but the regulator is understood to be concerned at the lack of transparency prevalent in tracker bonds

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So IFSRA is concerned about the lack of transparency in tracker bonds? But it has no objection to lending to invest in these products?

I don't know or need to know the detail of these products, but they are deposit based products. You cannot borrow to invest in a deposit based product and expect to make money. It just does not make sense. To make it worse, the return on the tracker will be subject to 20% Dirt or 23% exit tax.

IFSRA should proactively stop them before they are launched.

Brendan

Tracker Bonds and gearing

I think there is some confusion about the role of IFSRA...IFSRA has no statutory role to 'approve' or not approve financial products before they're launched.

So some suggestion that a particular product was referred to IFSRA and they didn't raise any objection to same, is a form of 'approval' is dangerous and misleading nonesense.

IFSRA and IFSRA Consumer Director's role is more 'information giving' than acting as the ultimate arbitrator of what a good and bad product is.

See the enclosed from legislation setting up IFRSA which outlines the role of the IFSRA Consumer Director:

"(4) This section does not oblige the Consumer
Director to identify specific costs to
consumers, risks or benefits in relation to the
provision of a relevant financial service."

Having said all that I agree totally...this lending to invest in a tracker is complete nonesense and is so laughable that you woudl think that a person with some part of their brian still functioning would see through it. But its Buyer Beware ...don't expect IFSRA to shoot all the bad guys for you.

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Cue cries of "eircom" from certain idiotic members of our middle classes when they get burnt by this one. My heart bleeds...

trackers

Not sure I fully understand. Why is it so bad to borrow to invest in a tracker, when we're borrowing huge amounts every day to invest in property. In fact, is it not better that it's a tracker, as you're guaranteed to pay off the loan - which isn't the same with property.

Re: trackers

Hi Nike Trackers

Think about it for a minute - You are running a bank. You have lets say €50m under your desk waiting for something to do with it.

Your choice is;

a) Stick it in a nice safe tracker bond being offered by another bank - good safe investment with capital guarantees and no administration fees (if the brochure is to be believed).

b) Lend the money to suckers (oops sorry) punters at a nice interest rate, and let the suckers bear the risk.

Why do you think the bank choose option b?

Regards - RainyDay

Re: trackers

Hi Nike

Trackers are simply deposit accounts. Most of the time they will return less than the deposit account rate. Some of the time they will do better.

It makes no sense to borrow to put the amount on deposit.

Brendan

Sorry nike

Let me clarify...

It makes no sense for the customer to borrow to put the money on deposit. Of course, it makes a lot of sense for the bank to lend money to their customers at one rate and take it back from them on deposit at lower rates.

Brendan

Do the sums add up?

The Geared Tracker Investor at Work


I invest 33 of my own money and borrow 67 for the gearing giving total investment of 100

80 of the 100 goes to a deposit account to repay the 100 at the end.

So 20 is left
The broker gets 5
The Life Company gets 5
And 10 buys the Equity Option


So at the start
I had 33 of my own money and have given away 10
I have borrowed 67 (on which I must make interest payments) and put it into a taxed deposit

In retrospect, perhaps I am not too shrewd an investor after all.

The result of the above is a big likelihood I will simply loose all of the interest payments on the borrowings I make...........and end upwith my original 33

ISFRA's role

Although ISFRA have no role in approving products, they are meant to have a role in supervising the sales of the products. They are clearly failing to ensure that potential investors have a clear understanding of trackers, particularly the liklihood in more complex trackers of getting a decent return.

I sometimes wonder what ISFRA's view of their role is. They give the impression that they are much more concerned with making sure the rules are obeyed and they don't get blamed rather than taking a broader view of ensuring that the public are protected.

Pat

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I sometimes wonder what ISFRA's view of their role is.

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Seems to be simply a new slant on prudential supervision and, in spite of all the hype, not much in the way of consumer protection as far as I can see.

trackers

Thanks for the replies, but I'm still not entirely clear.

Rainyday: You are saying the bank will choose to lend the money out than invest in a tracker. Isn't that their business so of course they'll lend it out? You say they wouldn't invest it in a tracker - but equally they wouldn't invest it in property? My question was on propertyvgeared tracker.

Brendan: What you're saying makes sense, I think. But isn't what you're saying really the case with normal trackers? In normal trackers, you're simply putting most of your own money on deposit and some to buy equity exposure. Do normal trackers make sense that you would tie most of it up just to get the original amount back (with no interest)?

None: I don't get why there's a big liklihood I will simply lose all of the interest payment and end up with the money I put in. Surely if equities make any return, then the gearing will ramp up?

Re: trackers

Do normal trackers make sense...

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i've being arguing for a long time on this site that trackers
make no sense for anyone no matter what your risk tolerance.
after sucking out commissions and slick advertising costs,
they lump a below inflation paying deposit or bond-based
product with a negative expectation gamble using a
derivatives purchase. the former can be purchased on it's
own for much better value and purchasing the latter is
gambling not investing since the expected return is negative.

for me this discussion is nonsense as trackers are crap
products full stop. discussing the pros and cons of borrowing
to invest in property or equities is reasonable. discussing
whether it would be sensible to borrow to put money on the
3:15 in aintree is nonsensical.

there still seems to be a general feeling that trackers have
their place but a logical case for them has yet to be
presented on this site despite me opening this topic a
number of times.

going back to the subject, banks will encourage people to
borrow to buy all sorts of rubbish; that's part of their
business. and as long as they know that they'll get the
money back off you, they don't care whether you spend the
money on a tracker or an unnecessary new car and they
gear their advertising campaigns accordingly. i don't see
any particular reason to get any more indignant about this
than many of the other loan marketing campaigns which
crop up every now and then - for example to extend your
home or go for a holiday or whatever.

Re: trackers

Isn't that their business so of course they'll lend it out?

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If they believed they would make MORE money by investing the money directly in the trackers themselves, they would choose this option, rather than lending it out to suckers. They don't choose this option, because they know very well that the trackers are a hiding to nothing.

But the suckers will bear all the risk of seeing inflation eating away at their so-called 'guaranteed' funds.

Re: trackers

Hi Nike

I don't like trackers. But let's take the plain vanilla tracker. It said "We will give you 60% of stock market growth, but if the stockmarket falls, we will limit your fall to 90%. We won't give you any of the dividends which you would receive from investing directly in these shares. "

That's fairly clear. As an investor, you were limiting your potential return as a trade-off for limiting your losses. My perception of risk might allow me to invest in that product. But, at least, I knew what I was getting or losing.

The Quadruple Growth Bond and other trackers have become so complex, that it's impossible for 95% of people to understand the likely outcomes. And the likely outcomes are that they will not make as much as they would get from putting their money on deposit.

If you invest in property or shares, you can expect to get a good positive return over the long term. Even still, most people would advise against borrowing to invest.

If you invest in tracker, the expected return is well below the cost of borrowing, so it makes no sense to borrow to invest in it.



Brendan

Borrowing to invest in Tracker

A few points about geared Trackers:

(1) investors will need index growth of about 30%, just to pay for the interest they will have to pay until the Bond matures, never mind make an actual profit. So to make any type of decent profit to make the whole thing worth while, you're looking for index growth of 50%+. It starts to look improbable, to say the least.

(2) I understand the loans are not non recourse, i.e. you're personally liable to pay the interest on the loan ..if you default they'll come after you.Assigment of the Bond takes care of the capital repayment but you're exposed for the interest payments.

(3) Consider this scenario ...you're in the last year of Bond and the index is heading south. At this stage you know it wirtually certain that the BOnd is a dead loss and you're going to get nothing back. Interest rates are rising...you have to keep paying 'dead money' in interest to Permanent TSB or whoever. Imagine how sick you'd feel.

geared trackers

My gut feeling from listening to the above is that geared trackers are probably not worth it.... but I can't help thinking the points a lot of people are making are based on a guess rather than fact, and also that the comments apply to trackers generally or even to other investments generally.

Both Brendan and darag refer to likely returns are such the tracker will not make as much as they would get from putting their money on deposit. Darag even says "purchasing the latter is gambling not investing since the expected return is negative"!! I don't understand what the 'expected return' is based on, other than perhaps a guess? But if it is a guess both of you seem to be convinced that not only will you not make money, but it's close to certain you'll lose. Did I forget to pick up my crystal ball or how can you guys tell this?

RAIPI in point (3) talks about a scenario where the index is heading south in the last year, and interest rates rising. Isn't this exactly the sort of scenario we've been dreading on property, for which most people are loaned to the hilt? So, is this not just a comment on investments backed by loans generally?

RAIPI in point (2) talks about them coming after you for the interest if you default... now, maybe I'm missing something but I didn't think it possible you could simply default on a loan and they wouldn't come after you?? Can you put me in touch with this bank!

Probably the clearest point here is RAIPI in point (1). If I would need an index return of 50% for things to make sense, then it does seem like a fairly tall order. But equally once it goes over 30% (which you say is the break even) then presumably things gear up fairly quickly??

Re: geared trackers

nike, historically an investment in equities or property
will provide a positive return. unless you're predicting
the failure of capitalism, there are many reasons why
this is so. admitted this can not be proven to be the
case scientifically. however, this is generally accepted
by nearly everyone.

one way of looking at derivatives is that they are tools
used by businesses to insure themselves. if your business
involves coffee beans, for example, you can effectively buy
insurance against a particular movement in coffee bean
prices by purchasing suitable derivatives. there are
also derivatives which cover almost everything but in
particular, the ones sold as part of a tracker are based
on financial indicators.

derivatives are traded on markets so you can expect that
their cost reasonably accurately reflects the risks associated
with them. in other words, they are not expected to provide
a positive return. in the long term, if you bought a basket
of derivates you would be expected to lose money given the
trading and administration costs. this is why i don't see
them as an investment.

Re: geared trackers

Hi nike

It all comes back to what IFSRA's role should be.

darag and and others have given our opinion. Presumably Irish Life and ACC disagree. I do think that IFSRA should express some opinion on such complex products for the guidance of consumers.

With due respect to Mary O'Dea, I don't think that "If an offer is too good to be true it usually is" is sufficient advice to consumers.

Brendan

Trackers

darag

The point I made about the interest was simply to correct a misunderstanding that some may have had ..that the loan was non recourse, i.e. the mistaken impression that the only secuirty was to be the tracker bond itself.

Re possible returns, the point is that there is a probability of different returns...what we can say is that as you go up the scale of potential returns, the probability of achieving that return falls..therefore the probability of getting, say, a 20% rise in the index is higher than getting a 30% ...the probability of getting, say, a 30% rise in the index is higher than getting a 40%..and so on. In other words there chances of getting a 50% return are much lower than getting a 30% return.

another solution

If someone is prepared to put the interest payments over 5 years at risk in a geared tracker,he/she would be much better off buying a tracker with gearing inbuilt.
By investing in a structure which put all of that capital at risk the upside potential would be comparable to investing a much larger amount with a 100% capital guarantee.

As others have pointed out borrowing money to put most of it on deposit is probably quite inefficient and that is before charges.
We truly are an extraordinary lot if we are willing to take on (say) 100k of borrowing and put about 20k of interest at risk in preference to putting the 20k at risk in a 'proper' geared tracker.Admittedly the latter requires a cheque for 20k to be written up front.