Risks and Red Flags of Asset Back Structured Loan Funds

Asset backed funds [sometimes called ‘structured loan funds’] pool capital from multiple investors to purchase (or provide loans for the purchase of) physical assets, often property (such as apartment blocks, student accommodation, office blocks and warehouses) which may, or may not, have been built yet. In a robust and rising property market these funds have the potential to offer attractive returns – but they also carry significant risks that investors must be aware of – particularly because the fundamental flaws inherent in these products have resulted in significant losses for investors in the past. Understanding these risks and recognizing potential red flags is therefore extremely important.

Red Flags to be aware of

1. Lack of Transparency: A lack of detailed information in the product brochure about the underlying assets that form the basis of the investment (and the veracity of the assets' valuation) represent a significant red flag.

2. Lack of Liquidity: It is very easy to get into these funds but it can be extremely difficult to get your money back. The product brochure may say that you should (or perhaps even must) invest for a fixed term of 3, 5 or 7 years for example, but it’s important to understand how the capital would then be repaid to you. The answer often provided to this question in the product brochure is typically, 'from liquidity or refinancing' (i.e. receiving the funds from elsewhere to repay you). But this creates a significant problem, as if there are more investors wanting to get their money back than new investors putting new money into the scheme, then the required cash will not be available to repay the withdrawals, and the underlying asset (i.e. the property) would have to be sold. This forced (or 'distressed') sale of the assets could take months or potentially even years, and there is a possibility that you would not get your money back.

3. Promises of 'Guaranteed' returns: Promises of consistently high returns can be a sign of high risk or leveraging, and the use of the word 'guaranteed' should be treated with caution. Qualifications of the term 'guaranteed' in the product literature also represent a red flag, with wording such as; 'interest payments aren't assured' and 'payments will be paid at a later date if the issuer has the necessary funds', obviously rendering the use of the term ‘guaranteed’ meaningless.

4. Hidden Commissions: Recommending these products serves the advisor's interests, but is it in their clients' best interests? These products are often marketed with glossy brochures, long on words and pictures, but short on substance. They often don’t talk about the associated risks and the hidden commissions/fees paid to advisors for recommending them. We are concerned that these investments are being promoted to expats by advisory companies driven by the high commissions they receive for selling the product, rather than acting in the client’s best interests.

5. Misleading Marketing Materials and Past Performance Misrepresentation: Marketing materials for these products should be considered carefully. Some funds may selectively present past performance data to appear more favourable. Investors should seek verified performance records and consider long-term performance over various market cycles, rather than relying solely on recent successes. Clients also need to be sure that any affiliations suggested and referenced as being associated with the promoted investment, are legitimate. There may be occasions where reference is made in product literature to trusted organisations such as banks and accountants. However, the real association is not between the institution and the investment, but with the Firm promoting the product as a direct service provider.

Conclusion

At the turn of the last decade these types of products were marketed and sold by unscrupulous advisors to unsuspecting individuals, and we saw people lose significant sums of money when they failed - in some instances the entirety of their pension savings) having invested in these schemes without fully understanding the potential risks involved and whether they were an appropriate investment in the first place.

Before you even consider investing your hard earned capital in this kind of investment scheme therefore, it’s imperative that that due diligence is performed, including a detailed interrogation of the fund documents to understand the quality of the underlying assets, the veracity of their valuation, and the exact fees and charges payable.

If you have been approached by a company promoting this kind of investment and would like a second opinion from one of Forth Capital’s qualified advisors, please contact us to schedule an appointment.

This communication is for information purposes only and does not constitute financial, legal, or tax advice. To receive advice on financial planning, wealth management and pension solutions, please schedule a meeting with one of our Financial Advisors and Pension Specialists.