LETTER: Fundamental flaws in investment products

The recent news that the Financial Services Authority has fined a well-known banking group for mis-selling investment funds is welcome but does nothing to address the fundamental flaws in many mainstream investment products.

There are three flaws commonly found in these products. Firstly, they are often sold on commission, second the on-going charging structure while sounding modest actually transfers the bulk of the return from the customer to the provider; and finally those managing the investment have no direct financial stake in the fund (other than their handsome salary, which they will be paid regardless of performance).

In nautical terms, this means that while the investor is sitting in the boat, the manager is sitting in a deck chair on the jetty.

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Some of these problems can be avoided, while others can be managed.

There are some excellent collective investment funds – quoted on the London Stock Exchange – that are not sold on commission. In fact, there is no selling pitch at all, nor are there any fancy brochures. These funds, which perform well year after year, do not advertise their wares in national newspapers. As a result of this they are rarely mentioned by financial journalist in supporting articles about investing.

Quite a number of these funds are self-managed. This means that the personal wealth of those managing the fund is tied directly to the success or otherwise of their decisions.

This ensures a real commonality of interest since both the investor and the manager are sitting in a boat, and more importantly: the same boat.

In sailing terms: if the boat hits the rocks the investor and the managers’ both end-up marooned.

While this does not guarantee success, or superior performance it does mean that costs are seen in their correct light (as a charge that reduces investment returns) and that decisions about allocating capital are made with a great deal of care. After all, it’s their money (as well as yours) that is on the line.

Too often, those in the mainstream financial services industry are paid bonuses for enriching their organisation while impoverishing customers. The game is rigged: heads they win, tails you lose.

The saddest thing of all is there is no shortage of players.

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