Buying investment products such as shares, exchange-traded funds (ETFs) and investment trusts is a quick and simple process in the vast majority of cases, but if a more ‘complex’ product grabs your eye there are some hurdles you have to go through.

Rules laid down by the regulator, the Financial Conduct Authority (FCA), require investment platforms to assess their customers’ experience and knowledge before letting them buy complicated instruments.

Products such as warrants, securitised derivatives, convertibles, structured products and other specialist instruments fall into this category. Some platforms label all ETFs as complex, but most restrict this to short and leveraged ETFs – vehicles which multiply the positive or negative returns of an index.

Platforms decide for themselves which products are complex but this is always based on guidance from the regulator or London Stock Exchange (LSE), or in some cases product providers themselves. AJ Bell Youinvest labels stocks as complex based on a feed it receives from Interactive Data, but it can override the feed if it sees fit.

Appropriateness assessment

At one stage it looked as if all investment trusts would have to be labelled complex as a result of an EU Directive called MiFID II, but last month the FCA said it doesn’t think this should be the case.

The FCA consultation is still ongoing, but the Association of Investment Companies, which represents investment trusts, says the regulator’s announcement is very welcome.

If the FCA had said investment trusts are complex, investors buying the products would have been required by their platform to fill in an ‘appropriateness’ form.

Called suitability forms in the financial advice arena, these forms ask several questions which aim to determine your expertise and knowledge of the particular investment field.

They ask about your understanding of risk and dealing experience and ask you to sign a declaration.

If you don’t pass the assessment, you won’t necessarily be barred from investing. AJ Bell Youinvest will send you a secure message advising you that it doesn’t believe the complex instruments are suitable. You can reply with a declaration stating that you would like to proceed and the deal will go ahead. Other platforms may provide you with educational materials.

Although investment trusts aren’t considered automatically complex at present, there are still several instruments which your platform will label as complex and therefore require an appropriateness form.

They include trusts with a sophisticated structure and/or complex performance-related structure. Trusts investing in hedge funds, private equity, infrastructure, property or other illiquid asset classes can also fall into this category.

Some of these instruments are not technically investment trusts but are still grouped alongside them.

In general, if an investment trust is in the Specialist Fund Segment of the LSE it will be deemed complex by your platform.

The LSE says the Specialist Fund Segment is designed for investment entities that wish to target ‘institutional, highly knowledgeable and professionally-advised investors’. It cites investment managers of large hedge funds, private equity funds and certain emerging market and specialist property funds.

Listing criteria

Not all of the instruments in the Specialist Fund Segment look overly complicated; in some instances they may be in this segment purely because they don’t yet meet the criteria of the Premium segment or AIM.

Graham Glass, managing director at Amberton Asset Management, which manages SME Loan Fund (SMEF), says the trust is listed on the Specialist Fund Segment because of its small size and ‘other reasons’. The trust invests in a range of loans across a range of durations and geographies, although it is predominantly UK-focused.

‘The option of moving it to AIM as the fund grows over time is always open to us as we have adopted many of the more rigorous rules associated with AIM versus the Specialist Fund Segment,’ says Glass.

Nathan Brown, director of corporate broking at Numis Securities, broker for UK Mortgages (UKML) and Fair Oaks Income Fund (FAIR), says listing on the Specialist Fund Segment could be seen as a recognition by the trust of its complexity, but it is also down to not meeting the stringent criteria of the Premium segment.

‘UK Mortgages is on the Specialist Fund Segment because it was initially buying a single portfolio; now it is more diversified. Similarly, Fair Oaks initially had three or four investments but now it has more,’ he says.

If trusts think they are becoming less complex they could apply for a Premium listing.

Loans and leases

UK Mortgages, managed by TwentyFour Asset Management, invests in a portfolio of loans secured against UK residential mortgages.

Its first transaction was the purchase of a pool of £310 million UK buy-to-let mortgages from Coventry Building Society in November 2015. This was followed by the purchase of £250 million of owner-occupied mortgage loans from The Mortgage Lender in July 2016.

Fair Oaks Income Fund, launched in June 2014, offers exposure to US and European collateralized loan obligations (CLOs) – a type of security where payments from business loans are pooled together and passed on to other owners in various tranches. Loans include leveraged buyouts made by private equity firms.

Another collective in the Specialist Fund Segment is DP Aircraft (DPA) which buys aircraft and then leases them out. It owns four Boeing 787-7 aircraft, of which two are leased to Norwegian Air Shuttle and the other two to Thai Airways International.

A more well-known instrument in the Specialist Fund Segment is  Marwyn Value Investors (MVI), which invests in mid-cap UK, European and North American businesses.

Current investments include BCA (BCA), which owns WeBuyAnyCar.com; French footwear brand Le Chameau; telecommunications investor Zegona Communications (ZEG); and media technology company Gloo Networks (GLOO:AIM). It was previously one of the cornerstone investors in global film, television and music company Entertainment One (ETO).

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