Chapter 5 Flashcards
Two types fo investor
Institutional and individual (retail)
Institutional investors
Employ fund managers either internally or by outsourcing
How do retail investors compare to institutional
Limited time and resources, less knowledge and more tax considerations
What is restricted to certain types of retail investors
Riskier types of investment
What is. A certified high net worth investor
Annual income of 100k or more
Or
Ne investable assets of 250k or more
What is a certified sophistacetd investor
Has certificate to confirm they have knowledge to understand risk of investment and acceptance of significant risk of loss
How to become self certified sophistacetd investor
Member of business angels
Made investment in private businesses
Work in PE sector
Director of conmopany with turnover of over 1 million
Restricted mass market investment s3
Non readily realisable securities (unlisted shares or bonds)
Peer to peer agreements or portfolios
Qualifying crypto assets
Non mass market investments include
Non mainstream pooled investments
Speculative illiquid securities
Who can restricted mass market investments and non mass market investments be promoted to
RMMI promoted to high net worth and sophistacetd investors
NMMI also promoted to both above along with suitability assessment
4 outcomes from consumer duty rules
Products and services - fit for purpose and meet needs of target group
Price and value - good value for money
High consumer understanding to effectively make decisions
Consumer support
Consumer duty 3 obligations
Good faith to retail clients
Avoid foreseeable harm to retail clients
Provide support to retail clients
FCA actions on vulnerable clients
Understand needs of vulnerable and be able to identify them
Support them
Monitor them
Investor needs /requiremnts
Returns
Risk
Time horizon
Liquidity
Tax
Religious or ethical beliefs
How can affordability be judged for clients
Preparing cash flow statement showing all clients incomes and expenditures and likely changes
What does surplus cashflow statement and deficit mean
Surplus - indicates capital available for saving plans, paying off debt
Deficit means may need a change in financial objectives
How are client objectives determined
Using a fact find
Examples of hard facts
Name address DOB national insurnace, MArital status etc
Hard financial facts that fact finder finds:
Income
Investments
Liabilities
Tax and financial dependants
Soft facts on fact finder
Open ended questions to understand preferences
Normally collected face to face
Limitations of fact finder
Asks questions that client may not know answer to from memory or records
How does advisor get around finding out info clients don’t know in fact finder
Collect info from relevant third parties with a letter of authority
What other factors can affect clients circumstances
Satisfaction with life
Capital risk
Value o investment may be worth less in future than today
What is short fall risk
Risk that investment return required will fall short of objectives they are required to meet
How can various aspects of risk be mitigated
Diversification
Client risk profile is made up of 3 factors
Risk required - level or risk associated with required return
Risk capacity - clients ability to absorb losses from risk
Risk tolerance - level of risk client is comfortable with
Four factors that affect the risk profile of client
Timescale of investment = shorter time frame = more cuautious
Amount of risk capital (amount of money that could be lost that wont affect the client lifestyle)
Investment experience - increase experience = increased risk tolerance
Psychology
What was the regulators view in 2011
Failure to account for all info affecting risk willingness
Relying on risk profiling and allocation tools
Poor description of attitudes to risk
How can risk tolerance be worked out
Reviewing clients existing investments
Capacity for risk?
Reflects clients ability to accept the level of risk identified from the attitude to risk questionnaire
2011 guidance on how risk profiling is performed 4 steps
Discussion if conflict between level of return wanted and level of risk wanted
Document if client can sustain greater capital loss to generate desired level of return
Establish suitability of investment if it requires greater risk
Asset allocation
Refers to the mix of underlying asset classes held within a portfolio
Most important factor in determine returns in portfolio
Asset allocation
Main reason for asset allocation
Diversification benefits
Factors that affect fund selection 4
Charges
Financial stability of firm
Past perf
Due diligence in fund selection
Two main charges for funds
One off charges
Ongoing charges - investment and admin charges, platform fees and annual management charge
Where is ongoing charges fee displayed
In the KIID of unit trust or OEIC
What costs are there in addition to OCF
Trading costs
Typical OCF for active and tracker funds
Active = 0.75% to 1.5%
Tracker = 0.15%
What does MIFID II require wrt charges
Disclose additional transaction costs that are charged to fund separately from OCF
Require all advisors to tell clients of costs
What should be the case for hedge funds
Service providers are independent of each other
How often are reviews in financial planning process
Annually at least
What is a financial review a good opportunity to do 3
Check for changes in client circumstances, risk profile
Monitor investment performance
Rebalance portfolio in line with asset allocation
Why does rebalancing of portfolio occur
Portfolio drift due to differing returns
How long must a venture capital trust be held before their disposal is exempt from capital gain
No minimum period
What investment choice is tax efficient
Personal pension scheme
What type of investments is exempt from income tax
Shares sheltered in ISA
Uk shares invested through isa for example
Tax relief received if 100k invested in unlisted stocks through enterprise investment scheme
Tax relief through scheme is 30%
100k x 30% = 30k
Most popular way for retail investors to invest
Indirect investment via an investment institution
Two main types of pension fund
Defined benefit- agree to pay a certain percentage of final salary also depended t on years of service
Defined contribution - contributions used to buy investments and ROI determines pension benefits
Pension benefits
Tax relief
Contributions receive income tax relief
Capital gains and interest earned not liable to tax
Lump sum tax received at start of pension also tax free
Pension limitations
Pension income is liable to tax
What does mature pension fund mean and how will portfolio balance change
A fund with height proportion of contributing employee close to retirement
Probable invest less in equities and more into fixed income
What pension is received yearly for person on 50k who’s contributed for 40 years on a 1/80 pension scheme
50k x 40 /80 =25k yearly
Pensions act 2008
Requires all eligible job holders to be enrolled into qualifying scheme
Eleible = esteem ages of 22 and state pension age with annual earnings over 100k
What was set up for employees if they do not have a suitable pension scheme in place
NEST
National employment savings trust
Pension flexibility and main options for flexibility 3
Benefits in DC pension scheme can be accessed in more flexible ways from age 55, main options are:
Taking an uncrystallised funds pension lump sum = 25% of UFPLS is tax free- no drawdown or annuity plan bought
Purchasing. A life time annuity - PCLS of 25% also available at beginning
Entering a flexi access drawdown plan - no limit on takings each year with 25% PCLS also available at beginning
Pension commencement lump sum tax received= PCLS
People who go into pension drawdown plan are given.3 options
Choosing investment pathways
Choosing their own investment s
Staying with investments they already have
4 investments pathways
No plans to touch money within 5 years
Plan to use money to set up annuity within 5 years
Plan to start taking money as long term income within 5 years
Plan to take all money in 5 years
Why closure of db schemes
Increased longevity increases cost of scheme
Actuarial deficits leading to increasing employer contributions
Increasing pension deficits
Assurance policies vs life insurnace
Cover the life on an individual over a specified peirod
Life insurnace pays lump sum when policy holder dies
What are life companies liable to and what do they do (tax)
Capital gain and income tax
Invest in ways to minimise tax they pay on funds
What does qualifying mean for life assurance policies
Proceeds of the policy are not taxed
What are liabilities for life assurance companies and general insurnace companies a
Long term liabilities for life assurance
Short term liabilities for general so have to be more liquid
3 main types of institutional investor
Pension
Life and general insurnace funds
Main aim of pension and life insurnace funds
Capital growth achieved through equities
What is important for general insurnace funds
Ability to meet expenses
Pension fund average composition of equities and fixed income
53% equities
2% fixed income
Life assurance fund composition equities and fixed income
28% in equities
46.5% in fixed income
What happens as pension fund matures
Liquidity needs rise
Liquidity needs of DC depend on 3
Plan type
Employee turnover rates
Withdrawal provisions
Average age of employee contributing
Which has higher liquidity needs and why
Life funds or pension
Liquidity needs greater for life funds bc reflecting shorter term liability structure
How are life and general insurnace firms taxed
Taxed on their profits
Standrd rate corp tax on life business
What are general insurers required to do??
Required to keep solvency margins expressed as a percentage of net assets to net premiums written
Who is less trick on types of assets insurers can hold
Uk or us
Uk
Two objectives for fund
Match liabilities and max returns
Portfolio constraints 5
Liquidity needs
Time horizon - longer time =riskier investments
Tax
Legal and regs
Preferences
What reg requirements are there for fact finds
None
Characteristic of life insurnace and general insurnace funds
Not tax exempt
Size of institutional investors in uk in size order. Largest first
Pensions
Insurnace
Unit trust
Investment trust companies
How does fax categorise retail investors
Wealth
And
Experience
