I often find myself bemused, and/or confused, when I see investment portfolios specified in terms of product wrappers (e.g. unit trusts, exchange traded funds, structured notes etc.) instead of the underlying investments (e.g. equities, bonds etc.). The underlying investments, and related risk exposures, are the first-order drivers of the outcomes savers experience not the wrappers. The wrappers might well have a second-order impact but this influence is likely to be less material than the first-order impact.
I understand that unpicking an investment product, particularly in the face of a determined sales pitch, ranks somewhere near watching paint dry for many savers but some degree of analysis might have a disproportionate financial impact. This ‘effort to impact’ ratio is particularly high in the cases where the events deep into the fine-print of the risk warnings come to pass – and we have seen more than a few ‘one in a billion year’ events in this millennium already.
The wrappers cannot add new benefits to the underlying investments beyond offering simplified access to a grouping of these investments. The provider of the wrapper might add some tweak to change the characteristics of what’s on offer. The tweak might take the form of combining instruments from external sources instead of/in addition to the provider. Whatever the case, unpicking is required in order to understand how the promoted outcome is likely to be delivered. In some instances, the unpicking process will demonstrate that the promoted benefits are unlikely to be deliverable (although the corresponding get-out clauses for the provider will be clearly set-out for those prepared to do the reading).
The wrappers might well detract from the underlying investments, particularly if poorly structured. They are often complex legal vehicles, with corresponding costs of management. The wrappers might also make it more difficult to see what is happening to the underlying investments and the resulting economic value. This value is potentially subject to unintended tax consequences for certain classes of savers too.
Wrappers do have at least one benefit – offering simplified access to a number of underlying investments in a single transaction, with corresponding benefits of economies of scale. Why not make these investments the primary focus of a portfolio construction exercise and address the wrappers as a follow-on decision? Does a focus on the wrapper not expose the saver to the risk of holding assets with characteristics other than the saver intended?