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FSA to ban the sale of 'Ponzi'-like 'death bonds'

'Death bonds’ or funds investing in traded life policies are 'toxic' and completely unsuitable for the public, the Financial Services Authority warns. 

 
FSA to ban the sale of 'Ponzi'-like 'death bonds'

(Update) Private investors have been warned to stay away from traded life policy funds, known as ‘death bonds’, which are so ‘toxic’ that the Financial Services Authority (FSA) intends to ban them from sale to private investors next year.

In a particularly strong warning from the financial regulator, it warned of ‘significant problems’ with the way the ‘high risk’ products are ‘designed, marketed and sold to UK retail investors’.

The regulator's announcement follows a string of investment scandals such as Arch Cru, Keydata and ARM Asset Backed Securities involving the sale of or investment in traded life policies. The FSA estimates £1 billion is currently held by UK investors in funds such as the Guernsey-based EEA Life Settlements Fund.

Death bonds got their name because they invest in US life insurance policies sold by terminally ill individuals looking to raise money. The funds were widely marketed to as 'alternative' investments that would provide stable, low risk returns not linked to the stock market.

By buying the policies second hand and agreeing to take on the payment of premiums, the funds were meant to receive a payout when the individuals died. However, a combination of fraudulent behavour and the general increase in life expectancy meant investment returns were not always what was expected. Some funds lacked sufficient liquidity to meet ongoing premiums when this happened, the FSA said.

The regulator warned of the complexity and opacity of the products, 'involving several firms working together, often in different jurisdictions'.

It even said that in some cases the products function like a Ponzi scheme. 'In some models, yields are promised to previous investors, which can only be sustained by using new investors’ money, so the model in effect "borrows" from itself and therefore appears to share some of the characteristics of a Ponzi scheme,' the FSA stated.

The regulator first warned about the risks posed by death bonds in March 2010 but said today that further intervention was needed as the market for the products was still showing growth.

'We are issuing a strong warning to the industry not to market these products to UK retail investors. Ultimately we aim to ban TLPIs from being marketed to UK retail investors, and we intend to consult on this next year to help erase the risks they pose,' said Margaret Cole, managing director at the FSA.

'For now, we want to make our message about these products clear – they are completely unsuitable for most UK retail investors,' Cole said.

This is the first time the FSA has announced its intention to use new 'product intervention' powers.  

Other life settlement funds sold in the UK include:

  • HC I Life Settlement Fund managed by Huet Capital Ltd
  • Life Settlement Strategy Fund managed by Centurion Asset Management
  • Life Plus Sub-Fund 1 managed by SL Investment Management in Chester

24 comments so far. Why not have your say?

Michael Peters Fenwicks

Nov 28, 2011 at 13:06

Until a few years ago these were considered to be low risk to investors. My biggest opposition on the subject is the lack of clarity when it comes to regulation on a lot of the cross border products.

I also mention the lack of clear rating from any worth credible agency and conditions that never seem to have clear transparency/direction ultimately leading to unclear structures for the final overall package delivered to investors.

Oh did I mention the ethical side of this argument?

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Nigel Meek

Nov 28, 2011 at 13:11

I have to say that I had 85k invested in the EEA fund up until last month, and I have found no problems at all. In actual fact it was extremely difficult to buy into this fund, (using the HL platform), as I had to pass a number of "tests" to "prove" I was a "sophisticated" investor. (Basically I had to show the total invested in these funds was not to be a significant proportion of my total , and that I had been investing for a number of years, so not exactly draconian). Actually selling up was a darn sight easier and much quicker too.

As long as one reads up on the risks these vehicles, they shouldn't all be tarred with the same brush, surely?

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Anonymous 1 needed this 'off the record'

Nov 28, 2011 at 14:13

I don't particularly like SLS as an asset class, particularly in open-ended fund structures as they are marketed as low risk investments (based on their volatility) and are actually much higher risk than most of the who are ultimately sold them realise. That said, in a securitised or closed-ended format, they can provide an uncorrelated return stream.

This is typical example of reactive regulation by the FSA

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MR C.

Nov 28, 2011 at 17:25

Clearly the FSA don't understand this more sophisticated asset class and have therefore thrown up a smoke screen to ward off the uneducated.

The asset class has a long track-record in the USA and quite literally mountains of data on life expectancy on which forecast return calculations are based. Hence the yields demonstrate low volatility.

As for the ethical argument I don't buy it. The fact is the insured are not forced to sell their polices. But instead have the option (unlike the UK public) to sell their policies after which the sale proceeds are (in part) passed to the insured for them to (a) spend on enjoying their final few months/years on this planet, or (b) spend on seeking specialist medical treatment that may result in them living longer. I can't see anything unethical about that. The alternative would be to let them die and for their relatives to inherit the monies to fritter away. Or for them to cease paying premiums, policies lapse and the insurance company walk away with a fat profit.

ALL asset classes carry elements of risk (in all its forms). Investors in SLS accept these risks in exchange for returns that are usually pretty consistent.

Alternatively you could opt for a Cautious Managed fund which is anything but cautious......but far simpler for the FSA to get their brain cell (singular) around.

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Jeff of Sidcup

Nov 28, 2011 at 17:52

Has anyone had any experience in an SLS run by Meteor?

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colin grant

Nov 28, 2011 at 19:12

Keydata may have been doing things, or individuals may have been doing things in Keydata that they shouldnt but their demise was caused by the FSA, and the tax man. I agree with Mr.C . There is nothing wrong in principle with this form of investment. If the rules and regulations are sensible and in place you shouldnt have to be a "sophisticated investor" (whatever that means.).The FSA are a loose cannon, making up rules as they go along. They have a lot to answer for. We will no doubt get the same scenario with Keydata as has just happened with another company where the investigators have taken all the assets to finance their deliberations.

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Franco

Nov 28, 2011 at 21:04

Why do our banks not buy these death bond Ponzi schemes? They will have fantastic profits at first, take their telephone number bonuses and when they collapse the tax payer will take the tab.

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Anonymous 1 needed this 'off the record'

Nov 28, 2011 at 21:25

Banks have been trading these for years, who do you think helps structure them for some of the funds?

Luckily most of them are structured in such a way that the term is fixed and they are closed-ended so it somewhat removes the liquidity risk associated with their open-ended counterparts

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Antonio VIvaldi

Nov 29, 2011 at 10:38

Blimey, what a collection of self-serving crooks. Nothing like conning your customers with dud investments, eh? And when the regulator finally fingers you, you sqeal about how unfair it is.

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Antonio VIvaldi

Nov 29, 2011 at 10:39

That should be squeal.

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Peter Lihou

Nov 29, 2011 at 16:48

The only thing I'm squealing about is the FSA scaremongering. I've been with EEA in Guernsey for several years during which time the fund has helped those who wish to retrieve more of their life cover than their insurers would have given them and I've seen a steady 8% per annum return on my investment EVERY year.

This is the only class of investment that has delivered consistent results in recent years and reading this article made me consider cashing it in. I hope that either the FSA will back up their statements with facts rather than innuendo and guilt by association, or EEA can claim damages from them.

It's hard enough to make decisions as it is without this nonsense.

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Chris Harvey

Nov 29, 2011 at 20:29

SL Investment Management's Life Plus fund, mentioned in the article, is an institutional only fund. In fact SL Investment has added their voice to the fact that life settlements should not, until certain conditions are in place, be targeted at retail investors. There is a distinction to be drawn in this debate between the asset class and the behaviour of certain individual providers.

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James Wetherall

Nov 30, 2011 at 12:36

The FSA are about to cause more damage than they will prevent with this broad brush approach. Their statement is likley to cause a crash in these types of fund many of which have been providing steady returns for years potentially causing massive losses for investors.

The offering I am most familar with is EEA, a fund that has been delivering strong and consistent returns for years and is built on sound principles. They only buy policies of those who are critically or terminally ill, so general trends in life expectancy don't apply. The fund is managed almost like a bond fund, with short, medium and long positions in terms of duration with a strong strategic approach to risk management. Sellers of life policies are not able to deal directly with EEA but must use a professional intermediary to ensure they achieve a fair price and are given independent advice before selling.

This scaremongering by the FSA will create a run on products such as these, which will put strain on liquidity and cause the fund to have to sell policies before realisation, causing losses, causing further redemptions, causing further liquiditiy issues...... repeat til fade. The potential losses for investors don't bear thinking about.

I totally agree that these funds are not suitable for mass marketing, but as a small part of asset allocation for investors with larger portfolios some of the life settlement funds are ideal. In an environment where there are few truly non-correlative investments compared to equity markets, these funds and student property funds are about the only two I can think of that have strong track records and are a very useful tool for SIPP and SSAS clients looking to hedge out some equity volatility.

By coming out with such a sweeping statement the FSA are potentially creating financial losses for thousands of investors who have been enjoying steady, low volatility returns for years.

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MR C.

Nov 30, 2011 at 12:55

@ James, Peter, Chris & Nigel:

Here, here!

@ Franco & Antonio:

Please research topics more fully before posting comments.

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James Wetherall

Nov 30, 2011 at 12:57

Antonio, I would politely suggest you ensure you are informed on a subject before making sweeping and offensive statements such as those above.

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AlJolson

Dec 01, 2011 at 12:05

We should ready ourselves for a "class action" against the FSA for their incompetence in the way they have dealt with this matter.

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Ro

Dec 01, 2011 at 12:23

James the problems you have outlined are typical problems of a Life Settlement Fund that use a 'mark to model' valuation methodology. That is, they use a model to value the policies. Problems tend to arise when it comes to liquidating the assets and they don't realize what they have been valued at. The future trend in the Life Settlements market is for funds to move to a "Mark to Market" valuation methodology. This method takes into account what the underlying assets are currently valued at in the market, therefore making it easier to sell into the secondary market. It thus helps with traditional issues such as liquidity. My advice for anyone investing in Life Settlements would be to pick a fund that uses a Mark to Market valuation methodology and operate a buy, trade and hold strategy as opposed to simply a buy and hold strategy. All this is backed up by AM Best's Research on Life Settlement Securitisation.

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colin grant

Dec 01, 2011 at 12:37

The FSA closed down Keydata, then, as I understand it helped finance them to keep going. If this isnt a waste of taxpayers money I dont know what is, especially as Keydata specialised in the type of invetment now being castigated by the FSA. Most of the money that Keydata had, has of course largely been hoovered up by Price Waterhouse Cooper's fees during their involvement in "sorting out" Keydatas problems. In the meantime investors like me lose out. The FSAs warnings against certain types of investment ought to include " anything the FSA have been involved in".

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Anonymous 1 needed this 'off the record'

Dec 01, 2011 at 12:40

@Ro - so how exactly do you apply a "marked to market" approach on a relatively illiquid asset? I'd be interested to know how you can do this with a life settlement policy.

Aren't most property funds marked to model as well?

The problem with SLS is the structure they are offered in (open-ended) when they, like many commercial property funds that locked up in the past, should have been closed-ended in the first place.

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Ro

Dec 01, 2011 at 13:22

It works by taking into account the market value of the asset on a regular basis, for example monthly, calculated by well established actuaries who are completely independent of the fund itself and work on a fee basis. Granted its not a perfect 'market', but Mark to Market is becoming the industry standard moving forwards.

I agree, quite often traditional problems with Life Settlements were not with the asset class but rather the structuring, however to say the problems lies with the funds being open-ended is simply inaccurate. There are numerous close ended structures that have also failed. The structure can be open or closed ended, I've personally worked with both and both work. However with an open-ended structure its important to have a valuation methodology that takes into account the market value of the asset. There are numerous articles available on this approach.

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Raymond ROBERTS

Dec 03, 2011 at 14:41

I agree with James. About 3 or 4 months ago I was able to withdraw my money without any problem from EEA and Meteor , who were very helpful and efficient.

Now. because of interference from the FSA. we are trying to recoup our investment from ARM we, among with thousands of others, we are unable tp access OUR savings. The FSA are the people who are preventing us and I would like to know WHY' We had no problem whatsoever receiving a monthly, very good income. So now we are having to postpone buying a new house. Very very annoying.

Ray from Torbay.

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Anonymous 2 needed this 'off the record'

Dec 03, 2011 at 18:32

i agree with james wetherall

i have had dealings with eea, and meteor and had super service from them when i needed to realise my funds. however, i also had funds with ARM but the FSA have stepped in and frozen thoae assets robbing me of my income about 15k a year. i object to this strongly and think that the FSA should reimburse me with that money for the next 19 years plus return my capital at the end of that period . the FSA are doing nothing more than lining the pockets of theirs and other finance orgs. WHAT CAN WE DO ABOUT IT???

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dd

Dec 03, 2011 at 22:29

"The FSA are about to cause more damage than they will prevent with this broad brush approach. Their statement is likely to cause a crash in these types of fund many of which have been providing steady returns for years potentially causing massive losses for investors."

- Exactly!

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Raymond Davenport

Dec 04, 2011 at 17:45

We need to contact out of touch Arm investors who may not be aware of our Forum site.

Please direct to http://arminvestors.com/armforum/index.php

We are in the soup with thanks to FSA killing off any chance to revive SLS investment plan due to it's announcement to which it does not substantiate with any proof.

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