Reviewing ‘with profit’ investments

For some parents, ‘with profit’ plans have been a staple part of their investments for a long time, covering savings, mortgages, pensions and single premium bonds. And there have been very good reasons for this … in the past.

‘With profit’ investments make sense; they offer a diverse investment strategy that includes equities, property, gilts and deposits and by acting on behalf of thousands of policyholders, they spread risk very well and have thus been seen as a sensible part of any school fees plan.

But they do more than this; they offer a ‘smoothed return’ that irons out the short term fluctuations of individual markets, ensuring that policyholders have a more predictable return. They also offer cast iron guarantees; there is a basic value to the plan (at a set date in the future) and bonuses once added cannot be taken away.

Unfortunately, it is this strength that is also their greatest weakness. Because of the guarantees, the insurance companies offering ‘with profit’ investments are legally obliged to have adequate reserves to cover a large range of contingencies including a stock market collapse. Unfortunately when the collapse happened at the start of this decade, some insurance companies were late in realising the depths to which markets would fall. From September 2000 to March 2003, the FTSE100 fell by more than 50% and it took until mid June 2007 for the index to recover (since when it has fallen back again).

As a result, many ‘with profit’ funds quickly reached the stage where they had to sell shares on a falling market and move into gilts and deposits in order to protect their financial solvency.

Having done so, they were unable to benefit to the fullest extent in the subsequent recovery. This is why bonus rates and payouts generally have been so poor, for so long; with only limited prospect of recovery over the next few years.

However, some insurance companies have managed to weather the storm better than others and it should be noted that ‘with profits’ as a concept is generally sound; collective investments with a diverse investment strategy should offer a good comparative return. Unfortunately, the way they operate – and particularly the lack of clarity over charging structures – has made them less popular with investment professionals and many clients are being encouraged to review their current use of this type of plan.

Simply ‘bailing out’ and switching to other forms of investment is not something that should be done lightly; not only might you be with one of the stronger funds, but you are also likely to be giving up guarantees. You could well face penalties for surrendering (as it is called) a ‘with profit’ policy before the maturity date, or encashing a ‘with profit’ bond on other than one of the dates when values are fixed.

If you have a plan that is linked to a mortgage – and some of the older ones are on-track to clear the mortgage, even if they do not offer a substantial balance on top – you will also need to consider an alternative way of repaying the capital on your mortgage.

More than ever, it is important to seek professional advice before making any decision relating to a ‘with profit’ plan. If you are in doubt about the best course of action, you should contact your independent financial adviser.

Indeed, it is important always to seek independent financial advice before making any decision regarding your finances.

THE VALUE OF INVESTMENTS IS NOT GUARANTEED AND WILL FLUCTUATE. YOU MAY GET BACK LESS THAN YOU INVEST.

NOTHING CONTAINED IN THE ARTICLE SHOULD BE CONSIDERED AS GIVING INDIVIDUAL FINANCIAL ADVICE. PLEASE NOTE THAT THERE MAY BE VARIATIONS FOR THOSE LIVING IN SCOTLAND AND NORTHERN IRELAND.

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