This article was first published in the first-quarter 2012 edition of Personal Finance magazine.
Linked-investment services provider (Lisp) administration platforms have come a long way since they were launched in 1986 by the now-defunct UAL Merchant Bank.
Lisps initially operated in a virtual regulatory void – and behaved accordingly – but improved regulation and greater competition have now forced them to toe the line.
Effectively, a Lisp is an "open architecture" investment or, to put it more colloquially, a "financial supermarket" that offers you a wide choice of investments under one roof.
A Lisp enables you to combine the investment offerings of a number of different companies and to switch between your investments at low cost. The Lisp keeps track of all your investments and provides you with a single statement, as well as other services, such as keeping track of tax.
On the other hand, if you invest directly into the investments offered by a number of companies, you have to manage your investments yourself. It can be cumbersome and expensive to switch between them, because you have to sell out of the offerings of one company and then buy into those of another company once the proceeds from the original investments have been paid into your bank account.
An alternative is to invest only in the products of one company that provides all the investment offerings that meet your needs. Usually, you will be able to switch between the company's offerings at zero cost, apart from brokerage fees and VAT.
Increased competition among Lisps has placed downward pressure on their costs and has slowly improved their range of investment options.
The key focus of Lisps is on retirement savings: using retirement annuities (RAs) and preservation funds to build up your savings; and, once you retire, Lisps are the main purveyors of investment-linked living annuities (illas).
You need to consider numerous factors when choosing the right Lisp to meet your needs. This article discusses the issues you must consider and compares the main Lisps.
The issues you must consider include:
Investment choice
Most Lisps offer a wide range of investments, although, in the main, they are limited to collective investments offered by the various, but not necessarily all, collective investment scheme management companies. Some Lisps also offer alternative investments and securities listed on the JSE.
However, the choice of investments can be very limited, particularly if a financial advice company uses its Lisp platform to package its own investments, which incorporate a limited number of offerings from other sources. Such a company will often only offer risk/return-profiled products in which it has wrapped the underlying investments – for example, a unit trust fund of funds or a life assurance policy.
No Lisp platform is allowed to offer financial advice on the underlying investment choices unless its financial services provider licence allows it to do so. A company associated with the Lisp may provide advice in the form of pre-packaged investment products, with the associated company choosing the underlying investments.
Sometimes, the products offered by a Lisp may favour the company with which it is associated. For example, Absa Investment Management Services offers Absa Capital's range of NewFund exchange traded funds (ETFs) but not the ETFs of other providers. Against this, the Momentum Lisp platform offers the entire range of securities, including all ETFs.
Your choices may also be limited by whether or not a unit trust company pays a rebate (kickback) to the Lisp and whether the Lisp puts the money in its back pocket or passes it on to you in the form of reduced costs. Some years ago, there was some controversy when then independent unit trust management company Futuregrowth refused to pay a rebate to Old Mutual in return for being listed on one of its platforms. (Old Mutual now owns Futuregrowth.)
Rosemary Lightbody, the senior policy adviser to the Association for Savings & Investment SA, says that in the context of Lisps the law now defines a rebate as an amount that is paid back to the client. Lisps may not use the term "rebate" unless money is paid back to the client in the form of cash or units. Where a management company makes a payment to a Lisp and the Lisp retains the payment, by law the term "platform fee" must be used.
Bear in mind that you may require only a limited choice of investments; in fact, you may not need a Lisp at all but should simply invest in a single balanced/asset allocation fund for long-term returns. A wide range of choice may result in higher costs.
Access
Some Lisps allow you to invest directly into the products on their platform, whereas others insist that you invest through a financial adviser.
If you do not have the investment skills or the time to manage your investments, it is better to use an adviser. You can negotiate the advice fee, which can include paying a rand amount for the services and/or advice provided. Most advice fees are based on an initial fee and an annual fee.
Your adviser must be licensed by the Financial Services Board to provide advice in terms of the Financial Advisory and Intermediary Services Act.
Costs
By law, a Lisp must disclose all its costs to you upfront. There may be numerous levels of costs that you must take into account, including:
* The Lisp fees.
* The financial advice fees, which the Lisp may pay on your behalf.
* The cost of the wrapper. There may be an additional cost if the underlying investments are wrapped in a life assurance product, such as an RA.
* The costs of the underlying investments. This will include any asset management or performance fee charged by a unit trust management company. When investing with a Lisp, you may pay initial fees and annual fees at the level of the Lisp and the underlying funds, although initial fees are disappearing.
* The fund of funds costs. If a fund of funds is used as the underlying investment, there is an additional layer of costs on top of the underlying investment costs.
The collective investment scheme fees are often negotiated down significantly by the Lisp, and the saving is passed on to investors by way of lower underlying costs.
Lisp fees are usually also negotiable, especially for bigger investors.
The typical fees for a Lisp product are: an initial administration charge of up to 2.84 percent of your investment, decreasing on a sliding scale linked to the size of your investment; an initial, flexible advice fee of up to three percent; an annual administration fee of 0.05 percent; and an annual advice fee of up to one percent.
Initial fees are gradually disappearing. This includes initial fees charged by Lisps, collective investment schemes and financial advisers.
Financial advisers who do not charge initial fees may charge higher annual fees, with the result that you could eventually pay a lot more in fees.
It is very difficult to compare costs between Lisps. The variety of charges and the different ways in which they are structured make it virtually impossible to compare one Lisp with another on a like-for-like basis.
In many ways, the costs and charging structures have become even more complex than those that notoriously apply in the life assurance industry.
The issues you need to take into account include:
* Initial and annual costs. A high initial charge and a low annual charge could result in your paying more than if the initial charge was low or zero and the ongoing annual charge was high.
The issue becomes a bit more complex if you invest in an illa and the initial cost is high, because the average annual cost will be determined by how long you live: the longer you draw the annuity, the less impact the initial cost will have, because it is effectively spread over a longer period. But if you die prematurely, the high initial cost will put you at a distinct disadvantage, because there would not have been sufficient time for it to work its way out of the system.
* All-in-fees. There are basically two different ways in which fees are charged to investors in Lisp products, namely:
* The original way. The fees are calculated on an annual basis but are deducted monthly from the underlying assets. The fees, the Lisp administration fees and adviser fees paid over to the intermediary are reflected separately. This structure is transparent, because the investor can see them reflected clearly on the quarterly statements as a deduction from the units or as a disinvestment out of the cash account. The advice fees can be negotiated, because the Lisp simply adjusts the percentage to be deducted from the investment.
* The new way – the all-in-fee. Lightbody says the unit trust management company bundles all the fees into the unit trust management fee. From the management fee, a percentage is paid to the Lisp (Lisp administration fee) and a percentage is paid to the adviser (adviser fee). The unit trust management company keeps the balance. The Lisp generally receives its and the broker's fee, and passes on the broker's fee.
Although this structure and all the fees are disclosed in the Lisp application form, you will not see: how the fees affect your unit holdings in the same way as with the original way; and any disinvestment of units to pay fees. The fees will result in a lesser (if any) dividend being paid. In this case, the number of the units will remain the same, because none is being sold off to settle fees.
Lightbody says the law requires clear, annual disclosure of what amounts are being paid to which parties and for what purpose, so the rand value of these fees should be disclosed in statements.
One of the major disadvantages of this system is that it favours, in particular, unscrupulous financial advisers, because it can be used to side step the negotiation of advice fees. The reason is that the collective investment scheme management company collects the fee. (The industry standard is about 0.75 percent a year.) This leaves little room for individual investors to negotiate a different fee with the adviser. The only way that this disadvantage can be overcome is by the Lisp rebating some of the broker fee to the client on behalf of the adviser.
Currently, both the original structure and the new structure will be used within the same Lisp, because not all unit trusts on offer are all-in-fee arrangements. So to make matters even more confusing, an investor can find that two different fee structures apply within the same product, depending on the type of unit trusts selected.
* Regularity. For example, one Lisp may charge an annual fee on a daily basis (the fee divided by 365 days), whereas another Lisp may charge the same annual fee but at the end of every month (the fee divided by 12). As a result of compounding, you will pay more to the Lisp that charges you on a daily basis.
* Source. Lisps take their fees from dividend and interest flows and/or from cashing in units to hold in a cash account reserved for the payment of fees.
Cashing in units can result in an opportunity cost, because if the Lisp cashes in your units when the markets (and your investments) are down, it will require more units to be cashed in, so there will be fewer units on which to make investment gains once the markets recover.
The fairer way of collecting fees is to draw on dividend and interest flows first.
Nishaan Desai, the retail chief investment officer at Alexander Forbes Retail Financial Services, says Lisp fees do not directly affect your illa drawdown rate. Your monthly income is determined on the anniversary of your illa as a percentage of your fund (capital) value on that date. Assuming the income is drawn monthly, that amount in rands divided by 12 remains the same in rand terms until the next anniversary. So the percentage drawdown depends on the annual value of your fund value. Against this, the Lisp fee is calculated as percentage of whatever your fund value is on the day of the charge.
Minimum investment amounts
Most Lisp platforms require a minimum lump sum investment of R50 000 and a minimum recurring investment of R500 a month.
WHAT IS A LISP?
A linked-investment services provider (Lisp) is a financial institution that packages, distributes and administers a broad range of investment products, which may range from unit trust funds to listed securities.
A Lisp provides you with four services:
* You can access, from a single point of entry, most, but not necessarily all, of the available unit trust funds and shares, as well as specialised investment products, such as retirement annuities, investment-linked living annuities and preservation funds.
* You can move between the underlying investments, normally with 48 hours' notice.
* You are regularly sent statements that update you on the status of your investments. The statements inform you of the products in which you have invested, if there has been any traffic in your investments over the reporting period, the value of your investments and the deductions to pay costs and/or tax.
* You have to comply with the requirements of the Financial Intelligence Centre Act only once, obviating the need to provide your personal documentation to a range of different companies.
Until 1999, the Lisp industry virtually operated below the regulatory horizon. In that year, the Financial Services Board (FSB) made the industry subject to regulations issued under the now repealed Stock Exchanges Control Act and the Financial Markets Control Act.
In 2002, Lisps were made subject to the Financial Advisory and Intermediary Services (FAIS) Act, because Lisps are intermediaries between investors and financial product providers.
Gerry Anderson, the FSB's deputy executive in charge of market conduct, says that Lisps – in legal terms, administrative financial services providers (FSPs) – must hold a category three FSP licence issued by the FSB in terms of the FAIS Act.
Administrative FSPs - there are currently 25 – must comply with the FAIS Act's general "fit and proper" requirements, as well as with the administrative code of conduct that applies specifically to Lisps.
Lisps must also adhere to regulations that pertain to using nominees to hold investments on behalf of investors and meeting certain capital adequacy requirements, Anderson says.
Lisps do not make investment decisions on your behalf – they are purely administration companies. You must make your own investment decisions, or you must make them with the help of an FSP or an FSP's representative who is registered with the FSB to provide investment advice.
Once a Lisp has carried out your instructions (or those of your adviser) and has bought the unit trust funds, the Lisp holds the investments in bulk accounts. The unit trust management companies do not know the names of the individual Lisp investors.
For your protection, bulk accounts must be held on your behalf in the name of an insurer (where the investment product is an insurance policy), a retirement fund (where the product issued to the investor is a retirement product), or an independent custodian, depending on the product.
The Lisp keeps track of what money each individual investor has invested into which management company.
A Lisp never owns the units that it buys, therefore the Lisp must always be able to reconcile the buy and sell instructions it receives from its clients with the actual units that it holds. An independent nominee company must ensure that this is done.
By law, all the money that a Lisp receives from its clients must be held in a trust account until it is invested. Similarly, all the proceeds from the sale of investments must be paid into a trust account. Under no circumstances may your money be mixed with the Lisp's assets, so, if the Lisp runs into financial trouble, your money should be protected.
ADVANTAGES OF A LISP
There are numerous advantages to using a linked-investment services provider (Lisp), Peter Dempsey, the deputy chief executive of the Association for Savings & Investment SA, says.
The advantages include:
* A Lisp provides a single administration platform that enables you to invest efficiently across a wide range of collective investment schemes offered by different companies.
You have a relationship with one company and there is one point of contact, which removes the hassle of having to buy units from different companies. This is also true when you want to switch between unit trust funds and management companies. For these reasons, Lisps are sometimes described as "unit trust warehouses" or "fund supermarkets".
* You benefit from wholesale pricing, because a Lisp is considered to be a bulk buyer of units when it invests in a unit trust fund. A Lisp often negotiates the unit trust fees down significantly and passes the saving on to investors.
* You have to comply with the requirements of the Financial Intelligence Centre Act only once.
* Lisps must by law provide their clients with a statement every quarter. The only exception is when an investor has confirmed in writing that they are happy not to receive a quarterly statement because they are able to access the information continuously, for example over the internet. The statements must provide details about all your investments across the different unit trust funds, retirement products and asset management companies.
* The Lisp provides you with a single tax certificate for all the transactions during the year that attracted income tax and/or capital gains tax.
* Many Lisps allow you to transact online, which further simplifies the management of investments.
Dempsey says the issues you should consider before you invest through a Lisp include:
* Costs. You must ensure that the advantages outweigh the additional administration costs. Lisps offer many benefits, but these come at a price.
* Necessity. Lisps are ideal for investors who want to take advantage of their centralised administrative processes and reporting mechanisms. Lisp platforms are particularly suitable for people who want to invest large sums of money and who want to spread their investments across a range of products and asset managers. Therefore, if your investment strategy requires that you be exposed to many investment companies and their portfolios, the costs of using a Lisp should be worth it.
However, if you intend to invest in the portfolios of only one or two asset management companies and to switch within those companies rarely and only when necessary, you could do without the services of a Lisp, Dempsey says. But remember that you will be responsible for consolidating your returns and calculating your tax liability.
Dempsey has a word of caution: "The ease of switching that Lisps provide requires strict discipline from investors and their advisers in sticking to the agreed long-term investment strategy. Trying to time the markets or chasing past performance is far more likely to destroy wealth than create it."
YOU CAN'T AFFORD NOT TO PAY FOR GOOD ADVICE
Linked-investment services provider (Lisp) and financial advice fees (excluding the asset management fees) can be equal to what pensioners draw down as an annual income from their investment-linked living annuities (illas). This has sparked ongoing criticism of illa and advice costs and how the costs are structured, namely, as a percentage of your assets (see reader's letter, below).
The issue has become a hot potato, with recent research showing that a drawdown rate of more than five percent a year could well result in an illa pensioner running out of money, particularly if he or she lives to the age of 90 and beyond.
In terms of current tax legislation, illa pensioners must draw down between 2.5 percent and 17.5 percent of the annual value of their residual capital. On top of this, industry guidelines seek to limit drawdown rates to ensure that annuitants will have an income for life.
Lisps are often paid twice over – once by an investor as a percentage of his or her investments, and then they receive a kickback from the asset manager. In some cases, the Lisp passes this kickback - or rebate, as it is known in the industry – back to the investor, either as cash in the investor's cash account held with the Lisp or as additional units purchased for the investor.
Like the writer of the letter, many illa pensioners who have time on their hands, are suspicious about the quality of the advice they receive and do not like the fees they are paying, are deciding to take control of their investments in order to cut costs.
But Ian Middleton, the managing director of Masthead Distribution Services, a financial adviser network, warns that you should not make rash decisions, particularly when it comes to advice.
It is a mistake to compare fees to the pension or draw-down, he says.
"On the basis of this argument, if the customer drew down 17.5 percent, because the fees are much lower than the pension, it would then appear to be reasonable.
"The question should rather be: what are the cheapest options for a living annuity providing decent investment performance and the support needed to understand what is going on with it? The problem with the 'how big are the fees' argument is that it ignores that it can't be done without some fees," Middleton says.
Lisp fees are not standardised and are often negotiable, depending on the size of the investment, he says.
Anyone contemplating a "do-it-yourself" approach should be careful and take into account the value that a financial adviser can add, which includes negotiating the Lisp fees and keeping track of these fees, Middleton says. He says the value of using a financial adviser to help you manage your illa lies in two areas: advice and support, for which an adviser deserves to be paid a fee.
* Advice. This involves determining your financial needs and objectives, together with providing a set of recommendations as to how to address the needs and achieve the objectives. Advice has a value, even though it may often be difficult to quantify.
"Ironically, it is often easier to quantify bad advice, or the lack of advice, or the lost opportunity. Unfortunately, this is mostly after the fact, once the damage has been done," Middleton says.
* Administration and support, which include dealing with the Lisp and implementing your investment instructions.
You and your financial adviser need to discuss and agree on how much you will pay and how the fee will be structured.
Middleton says there are a number of reasons in favour of paying an ongoing fee on assets "under advice". The reasons include:
* Initial advice. The adviser assumes responsibility for the advice at the initial stage. This responsibility starts with conducting an in-depth analysis of your risk profile, needs and expectations, and matching these with appropriate investment portfolios. With retirement money, this will also include analysing your cash flow, making future projections and managing your expectations.
* Ongoing advice. Your adviser has a responsibility to review your portfolios/investments, and this will require providing you with a service over the long term.
* Liability. Advisers are liable for the advice they provide. This liability is renewed every time the investment is reviewed. Even if the investment is not reviewed, advisers cannot escape their liability, because they have a duty of care to their clients. They need to hold professional indemnity cover and adhere to compliance requirements.
Paying an ongoing advice fee is an incentive for your financial adviser to provide you with continual service, because your adviser has a vested interest to stay involved, Middleton says.
Annual advice fees can be turned off if you feel that you are not receiving appropriate advice and/or service. You can choose to end a relationship with an adviser at any time, immediately ending any payment. This places you in a strong position to demand good service from your adviser, Middleton says.
You have the right to negotiate both the structure and the amount of an advice fee.
Middleton says it is particularly important to know, and to agree upfront with your adviser, what service you will receive in return for the fee. The fee should be commensurate with the service and advice rendered.
"There is no single standard set of advice or set of fees. In addition, many advisers forge close relationships with their clients, and often provide additional services that go well beyond what the advice fee covers."
He says fees can be paid in two ways:
* As a negotiated rand amount; or
* As a percentage of assets. Whereas a fee of 0.5 percent to one percent of R10 million might be excessive, a fee of one percent on R500 000 sounds reasonable, he says.
A good adviser will adjust his or her fee according to the size of your investment. This will ensure that you do not subsidise your adviser's other clients but pay a fee in line with the amount of time, expertise and risk attached to managing your investment. This approach will also protect illa pensioners when the size of their investment decreases.
Paying a fixed rand amount might turn out to be an excessively large fee for a small investment. Therefore paying a fee based on a percentage of assets is the most flexible and potentially the fairest approach, he says.
"Do-it-yourself" investing is often driven by a perception that the cost of advice is too high, Middleton says.
"Customers can decide to do it themselves, but if it's about the cost of the fee from the adviser, then they need to understand the trade-offs and what, if anything, they really save.
"Doing-it-yourself through an asset manager is sometimes not that easy. While asset managers may be experts in their fields and deal with collective portfolios, they are generally not qualified or registered to give advice or to match investments to meet the needs of individuals.
"Asset managers therefore take no responsibility for advice. In relation to costs, in many instances the advice fee charged by advisers is between 0.5 to one percent a year of the value of the assets, depending on the size of assets. Customers doing it themselves could save this amount, but is it worth it?"
Middleton says illa pensioners who choose to go it alone will need to have a great deal of expertise and the time to decide:
* Which Lisp to use. This includes checking every month which Lisp offers the best costs and assessing whether a Lisp is likely to go bust, which will incur additional costs when a new Lisp has to be found.
* How to invest their assets. Among other things, this involves deciding which asset manager to use, understanding performance fees, comparing investment performance and risk profiles, and deciding on the correct balance of assets between growth and stable investments.
* How much income to draw down, which requires financial mathematics.
Middleton says another problem is that once illa pensioners reach, say, 75 or 80 they may not have the inclination to manage their financial affairs properly. And it is at this stage of their lives that illa pensioners should consider switching into a guaranteed annuity. Making the right choice will require an assessment of their financial needs and the product options.
"Even for the informed customer, this is daunting. If one looks at the time demands (hours or days) and divides this into an assumed fee, this may well show little or no saving. It also ignores any quantifying of the risk that something may go wrong, or the opportunity cost, such as misallocating an investment.
"Customers need advice, and when they choose a qualified and experienced adviser, we have found that, with proper service and qualified investment advice delivered as agreed with the client upfront, advice fees are not an issue," Middleton says.
Reader's letter about costs
As a result of reading your articles, I have become acutely aware of how unnecessary/excessive costs can erode one's investment.
I am due to retire in a year's time and have decided to buy a living annuity. I have been urged to do this through a financial adviser, who will charge me an annual commission based on the value of my investment (not my pension). There is, in addition, the cost of a Lisp and possibly an initial fee.
The money is likely to be invested in a number of balanced funds administered by the major asset managers. If I draw the minimum of 2.5 percent a year, I could well end up paying more in fees than I draw as a pension.
As the majority of the work is done by the asset managers, I question whether the financial adviser is adding greater value than his commission. Further, the amount that he receives in commission would appear to be totally out of proportion to the amount of time he spends on my portfolio.
To diversify risk, I am contemplating going directly to four major asset managers – say, Allan Gray, Coronation, Nedbank and Investec – and buying an annuity from each, investing at this stage in my life in their balanced funds.
There are obviously pros and cons to what I am contemplating.
YOUR CHOICES COULD SHRINK IF YOUR LISP IS BOUGHT OUT
Be careful what you sign up for when you use a linked-investment services provider (Lisp) platform. The terms and conditions may allow the Lisp to change its offerings and other services at its discretion and at a cost to you. You also need to be sure of what will happen when one Lisp takes over another – as a number of Lisp platform investors recently discovered to their chagrin.
Towards the end of last year, the Lisp PSG Asset Management Administration Services took over direct Lisp operator Equinox and attempted to force investors on the Equinox platform to make quick decisions about a restructure of their investments, mainly a change to a limited number of unit trust funds, dominated by PSG funds.
At the time this edition of Personal Finance went to print, the actions of PSG were the subject of an investigation by the Financial Services Board.
Equinox offered 500 unit trust funds, whereas the PSG range is far more limited, at 200 funds.
Equinox investors received emails from PSG late in November – but dated in early November – telling them that about 300 funds on offer on the Equinox platform would be closed to them on December 9.
The Equinox investors were then offered a limited number of funds into which they could switch their investments from the funds that were no longer available to them on the PSG platform.
In one particular case, an investor was told that he had to move from the Investment Solutions Global Equity Feeder Fund to one of eight funds, of which three were unit trust funds of the PSG management company.
And the investor was told that if he did not make up his mind within 10 days, PSG would decide into which PSG fund his money would be moved.
PSG did not point out a number of important facts to investors. These included:
* By changing funds, investors would incur a capital gains tax (CGT) liability, and how this could be avoided. The only exception when CGT would not apply would be if the underlying investments were within a pension product, such as a retirement annuity, a preservation fund or an investment-linked living annuity.
* If various units owned by investors were outside a retirement-funding vehicle, investors could simply ask for their units to be held by the unit trust management company, thus not incurring CGT.
* Investors could switch to another Lisp platform that offers a broader range of unit trust funds. This would enable them to keep their money invested in the funds they had selected on the Equinox platform.
(When investors move from one platform to another, they do not have to cash in their existing investments and then reinvest; they can simply transfer whatever units they own.)
After Personal Finance raised with PSG the Equinox investors' complaints about the manner in which PSG was dealing with them, Mike Smith, the chief executive of PSG Asset Management, immediately extended the deadline for Equinox investors to make a decision to February 10, 2012 and took a far more conciliatory line with investors.
Among other things, investors were told:
* They would not be restricted to a limited number of funds on the PSG platform in switching out of unit trust funds no longer available on the PSG platform but could choose from any of the 200 funds PSG has on offer.
* If they wanted to stick with their unit trust fund choices, they could either switch their investments to the unit trust management company that manages the fund, or they could change Lisp platforms at no cost, and thus not incur CGT.
* The access to some Equinox platform funds would no longer be closed. These included some Absa, Prudential and Stanlib funds. (Probably because the funds were bigger than the minimum size set by PSG.)
The reasons that PSG gives for restricting its range of funds include:
* As a general rule, PSG excludes funds with less than R50 million in assets under management, unless it is a start-up fund. The reason, it says, is that cost structures can be high and when withdrawals exceed more than five percent of the value of the fund, the fund manager can delay redemptions to protect remaining fund members but potentially exposing withdrawing investors to the risk of future lower prices.
* The greater concentration of assets in particular funds allows higher rebates to be negotiated with management companies. The rebates are passed on, through reduced platform fees, to investors.
BRIEF HISTORY OF LISPs
Initially, linked-investment services providers (Lisps) were a platform that provided investors with a more cost-effective way to access a broader range of unit trust funds and enabled investors to switch between funds. At that time, there were less than 50 South African unit trust funds on the market, and a handful of unit trust management companies.
Before the advent of Lisps, if you wanted to change your unit trust investments, you had to disinvest from one fund and then reinvest your money in another fund. This involved paying costs of as much as six percent, even when you switched between funds offered by the same management company.
If you were switching between companies, there could also be time delays and banking costs as your units were cashed in and the money transferred to your bank account. And then you had to buy new units, which involved completing an application form from the new management company. These costs could soak up about six percent of your savings.
Lisp platforms cut the cost of switching to 0.25 percent initially and the time taken to make the switch to about 48 hours. Now, most Lisps allow you a certain number of free switches a year or do not charge for switching at all, because the initial fees charged by the unit trust management companies are fast disappearing.
It did not take the Lisp industry long to launch its own product wrappers, such as retirement annuities (RAs) and preservation funds.
However, the Lisps' main product innovation – which remains the backbone of the industry – was to launch investment-linked living annuities (illas) in the early 1990s. At that time, the only pensions you could purchase were guaranteed annuities provided by the life assurance companies. But many people with guaranteed annuities did not like the fact that when they died they "lost" their capital, and they had no idea of the underlying investments and costs. In other words, they had no inkling whether they were getting a fair deal.
Lisps now manage in excess of R467 billion on behalf of investors.
Lisps in effect started as unit trust supermarkets, but their offerings have become a lot more complex and sophisticated. They now offer a much wider range of investment products, making many, but not all, of them investment supermarkets.
The downside of the ability to switch easily between a wide range of investments was that many people and their financial advisers suddenly thought they had become financial wizards and switched money between an increasing array of exotic unit trust funds – more often than not at the wrong time. Matters came to a head in 2001, when the bubble in telecommunication, media and technology stocks burst, leaving many investors with significant losses.
Increasingly, investors have come to appreciate the advantages of using balanced/flexible funds as the core of their investment portfolio, and that trying to time the markets very seldom pays off. In the regulatory void in which Lisps operated initially, they became involved in a number of unacceptable practices, which included:
* Demanding kickbacks ("platform fees" in the Lisps' language) from unit trust management companies in return for listing the unit trust companies' funds on the Lisp platforms. These kickbacks were not declared to investors. The Lisps argued they were entitled to the rebates/platform fees because they were undertaking much of the work that the unit trust management companies would otherwise have to do.
Any platform fees now have to be declared. Some companies pass them back to investors by crediting their clients' cash accounts or by allocating additional units – in these cases, the fees are termed rebates.
The Lisps nowadays also negotiate lower asset management fees, to the advantage of their investors, rather than accept rebates (see the "Lisp fees on investment-linked living annuities" table; link at the end of this article).
* Offering financial advisers luxury overseas trips as an incentive to channel business in the Lisps' direction.
In 2008, in the face of increasingly bad publicity, the then industry organisation, the Linked Investment Services Product Association, which is now part of the Association for Savings & Investment SA (Asisa), banned foreign but not "local" trips, which were limited to Southern Africa.
Both local and foreign trips were effectively banned last year in terms of a code of conduct on conflicts of interest issued under the Financial Advisory and Intermediary Services Act.
The Financial Services Board (FSB) is showing a commitment to ending the offering of incentive trips. The FSB's Enforcement Committee, an administrative justice system that ensures compliance with the laws administered by the FSB, recently fined Discovery Invest for paying the travel costs of a group of financial advisers so that they could attend one of Discovery's roadshows.
When Lisps first entered the market, the life assurance companies, which permitted investors to invest only in their own underlying investment products, started to lose business. The life industry attempted to discredit Lisps, warning investors that their costs were high and that they were shouldering too much risk.
However, as the life assurers continued to lose market share, particularly in the single-premium investment market, they were forced to come to the Lisp party.
The life companies have effectively combined the Lisp structure with their products to provide products, such as endowment policies and RAs, that have a wide choice of underlying investments offered by the life company and other unit trust management companies. These products tend to be sold under a life assurance policy, which is subject to the Long Term Insurance Act.
If you invest through a life assurance Lisp, you may enter into a different type of legal contract than you would if you invested through a stand-alone Lisp.
With a stand-alone Lisp, you may own the underlying investments, whether they are unit trust funds, shares or bonds. Most stand-alone Lisps also offer endowment wrappers or illas. In order to do so, they may have taken out a limited life licence or they may have "white-labelled", or used, the life licence of a life assurer.
A life assurance Lisp, on the other hand, takes ownership of your money when you invest with it, although it has to follow your investment instructions. This is unlike what happens with normal life assurance investment products, where a life company does not have to invest the money where you say it should be invested - it merely offers to pay a return similar to what you would have received had you invested in a particular portfolio.
However, Rosemary Lightbody, the senior policy adviser at Asisa, says it is not really a "life assurance Lisp" and a "stand-alone Lisp" scenario; all Lisps generally operate on the same basis.
Lisps that offer "life-wrapped" investments, whether or not they are part of a financial service group of companies that includes a life company, are "wrapping" unit trusts, and sometimes direct securities, into life policies, Lightbody says.
In all cases, the policy belongs to the investor, but the underlying assets belong to the insurer, although the insurer allows the policyholder to make the investment decisions from a wide range of collective investment schemes and also "life funds". (Life funds are portfolios managed by a life assurance company.)
As a result of the life companies entering the Lisp arena, the life industry has maintained some of its stranglehold on the retirement product industry.
Furthermore, although the Lisps invented illas, most living annuities can be sold only under a life assurance licence. An exception can be when you invest in an RA offered on a Lisp platform. In this case, if the RA fund rules allow for it, the fund itself will provide an illa from the assets built up to your credit within the RA fund - no life licence is required.
Independent (non-life assurance) Lisps have partially overcome the life licence problem by:
* Using the licence of an associated life company;
* Applying for a limited "investment-linked-only" life licence; or
* "Renting" a life licence in terms of a "white-label" agreement with a life assurance company. The life company takes on the risk that your benefits will be paid when they fall due.
There was a hiccup with renting life licences that has now been corrected by legislative intervention.
In 2007, the Cape High Court placed Ovation, a Lisp, under curatorship after the FSB discovered that Ovation's owner, Angus Cruikshank, who later committed suicide, had stolen about R270 million of investors' money invested in Common Cents, an unregistered money market fund.
The Ovation illas were provided under the life assurance licences of Metropolitan Life and MCubed. MCubed made good the losses, but Metropolitan initially resisted paying R66 million plus interest to the curators of Ovation so they could reimburse the pensioners whose money was stolen. As a result of Metropolitan's initial resistance, Parliament approved legislation in 2008 that makes life assurance companies fully responsible for the actions of their agents or representatives where they enter into binder agreements. In simple terms, binder agreements govern life companies that lease out their licences to other parties.
The government is threatening to break the life assurance stranglehold on illas by allowing them to be sold by non-life assurance investment companies.
It plans to rename illas as retirement income drawdown accounts (riddas). The government has also signalled its intention to make the market more competitive by launching its own ridda, which would use inflation-linked RSA Retail Bonds as the underlying investment.