Investment Products and Services
Domain 8: Investment products and services
This domain tests the features, risks and uses of collective investments, investment trusts, ETFs, bonds, structured products and advice services. Questions often compare structures on cost, liquidity, gearing and counterparty risk.
Product types
- Open-ended funds such as OEICs and unit trusts pool investor money and issue or cancel units at net asset value. Pricing and dilution can affect returns.
- Investment trusts are closed-ended companies with a fixed share capital. Their shares trade at a premium or discount to NAV and they can use gearing.
- ETFs trade intraday like shares. Physical ETFs hold the underlying; synthetic ETFs use swaps and carry counterparty exposure. Tracking difference reflects fees and implementation.
- Structured products combine a deposit or note with derivatives. Capital protection depends on the issuer’s creditworthiness, not just the underlying index.
- Bonds and gilts provide income and capital repayment, subject to credit and interest-rate risk.
Services and charges
- Advisory services require a personal recommendation; discretionary management gives the manager authority to act within an agreed mandate; execution-only does not involve a suitability recommendation.
- Charges include initial, ongoing, platform, transaction and performance fees. Comparing only the ongoing charge figure can understate total cost.
- DFMs and platforms introduce different responsibilities for suitability and oversight.
Worked example
An investment trust has NAV per share of 500p and a market price of 450p. Discount = (500 − 450)/500 = 10%. If the discount narrows to 5%, the price would be 475p, a gain of 25p on 450p = 5.56%, even if NAV is unchanged. If gearing is 20% and the portfolio falls 10%, NAV falls approximately 12% before costs, amplifying losses. The investor must assess both the portfolio and the discount/gearing effect.
Traps
- Treating an investment trust’s discount as a guaranteed profit; it can widen.
- Ignoring gearing’s effect on volatility and income.
- Assuming a structured product is safe because it is “capital protected” by a counterparty.
- Comparing ETF and fund costs without considering transaction costs and tracking difference.
- Confusing advisory, discretionary and execution-only responsibilities.
Key points
- Open-ended funds price at NAV; investment trusts trade at premiums or discounts.
- Gearing amplifies gains and losses.
- Synthetic ETFs carry counterparty risk; physical ETFs carry securities-lending risk.
- Structured product protection depends on the issuer.
- Service type determines whether a personal recommendation is given.