Capital Guranteed Products And How They Fit Into Your Portfolio (Part 2)

In last week’s article, we examined the nature of capital guaranteed products and explained why they were so popular during economically-uncertain times. Despite the fact that banks and insurance agencies tend to over-zealously promote them during such times, they do serve a purpose and can be part of a sound financial portfolio.

Having said so, there are many types of capital guaranteed products and it does matter which ones you choose to park your money with. After all, marketing brochures never tell you the a complete story. These are some important things to watch out for before making your decision:

Does the issuer of the capital guarantee meet the ‘solvency adequacy’ requirements? In other words, does the issuer have the financial means to deliver the promises made to clients when the product matures?

Is the issuer protected by ‘PPF’ (Policy Owner Provision Fund)? Most life insurers in Singapore are governed by this fund which compensates policyholders in the unlikely event that a registered insurer fails. Under current provisions, the PPF will cover up to 90 per cent of an insurer's liability from any life policy. Do note that structured deposits issued by banks on the other hand, are not protected by the Singapore Deposit Insurance Act which insures the first $20,000 of aggregated deposits with the bank should the bank fails.

When does the issuer return the full invested capital sum to the investors? Most structured deposits require the investor to hold the capital guarantee to its full five year term before the capital can be retrieved, whereas capital guarantees offered by life insurer often returns the full amount by the end of third policy term. This gives a huge advantage to clients. In times of urgent need for cash, they can break the contract term without losing any cent invested.

Is the interest payout compounded or flat? Some issuers pay the interest out yearly in cheques leaving no option for the investor to compound it further. For investors who actually do not need such liquidity yearly, they forsake a potential higher return at the end of the term.

Many issuers of structured deposits like to flash on their advertisements a sexy guaranteed interest paid out in the first two years. The interest in the subsequent 3^rd, 4^th and 5^th year is then dependant on the performance of the underlying asset class. In many occasions, the actual interest in the remaining years is negligible. For example, the issuer may promise a 2% interest in the first two years. But, because the remaining 3 years pay nothing to the investor, the real return on investment annualized is really less than 1%. For such returns, the investor may have done better off with fixed deposits. The capital guarantees offered by life insurers are fortunately often without such complicated make-ups. They may make a much better capital preservation tool with such higher certainty of their interest paid-out.

Is there an additional life insurance coverage provided by the capital guarantee? Those issued by life insurers often give a insurance on death and total and permanent disability for the investors whereas structured deposits offered by banks do not have such a feature. In the struck of an unfortunate disability, the monies of the investor with the structured deposit is still locked in, but with the life insurer, he gets an amount that is usually 25% more than his capital invested.

To sum it up, do not make a hasty move and lock your money in without ensuring that move is appropriate in the context of you financial situation. Speak to your adviser, and let your capital preservation tool work for, and not against you!