Proliferation of hybrid products
I’ve often said investing in the 1980’s was easy because interest rates were so high. Interest rates peaked out in 1981 with double-digit returns as high as 20%. What better combination than to get high returns with low risk. After all, isn’t that the combination all investors are looking for?
Unfortunately it’s not that simple these days with interest rates below 5%. As baby boomers near retirement, the idea of conservative investing is becoming more relevant. Losing valuable investment capital in the years before retirement is a serious concern because there is less time to make up significant losses in the stock market.
Because of demographics and the aging population, many investors are in a tough spot. Many want to be more conservative as they get older and head into retirement but at the same time, they can’t afford to be too conservative as they need growth to reach their retirement goals, fight inflation and combat low interest rates.
Have your cake and eat it too
It used to be there were only two types of investments: guaranteed and non-guaranteed. With guaranteed investments, typically there are two things that are guaranteed. First, your capital is guaranteed and secondly, the rate of return is guaranteed.
Since the early 2000’s when the stock market started its decent though one of the worst bear markets in history, we saw a huge development in the world of hybrid products. I call them hybrid products because they had some characteristics of the guaranteed investments but also some characteristics of the non-guaranteed investments. On one hand, these hybrid products provide a guarantee of capital like GICs but there is no guarantee of a rate of return. Instead the future returns are unknown because they are linked to some non-guaranteed investment like a stock, stock market or a mutual fund. In other words, these hybrid products promoted that investors could ‘have their cake and eat it too.’
Some examples of hybrid products include index-linked GICs, mutual fund linked GICs, segregated funds, and more recently principle protected notes (PPNs). Most recently, Manulife launched one of their most successful products to date called Income Plus which is geared to the baby boomers heading into retirement by providing a guaranteed income stream in retirement ensuring they never get back less than their original investment. Manulife was the first to bring this innovative product to Canada and as a result brought in millions of dollars since it’s launch. Not unlike other innovative products, many competitors have launcher their versions of the same product. The success of Manulife’s Income Plus product really proves how popular these hybrid investments have become.
Are hybrid products everything they are cracked up to be?
At the end of the day, hybrid products like segregated funds, index linked GICs and Principle protected notes have a lot of appeal for investors looking to tame their risk but still get a reasonable rate of return beyond 4% or 5%. As popular as they are, investors need to shop wisely and read the fine print because there is lot of variation between products. For example, some index linked GICs provide a guarantee of capital over 5 years while some products provide a guarantee over more than 10 years. One key perspective when if comes to these products is that guarantees are never free. In order to give you the cake and eat it too, there are usually some added fees to the cost. In some cases, the cost can be the biggest impediment for the investor in making money.
There’s no question, these products have a lot of sizzle and most companies and advisors are not shy about promoting the benefits. Make sure you ask about costs and fees before you sign on the dotted line because some of these investments can be very expensive.