How safe are your shares?

What happens if one of the firms holding your shares goes bust? It sounds an easy question, but the answer isn’t as simple as it might seem, says Cris Sholto Heaton.

MoneyWeek readers often ask about the safety of their investments. What happens if one of the firms holding them goes bust, for example? It sounds an easy question, but the answer isn't as simple as it might seem.

When you invest through a stockbroker or fund supermarket, the shares, bonds or funds you buy will usually be registered in the name of the broker you use. However, you are the "beneficial owner" of the securities, which means that you have rights over them. So if the broker collapses, your assets can't be taken by the broker's creditors. In the UK (but not all other countries), brokers hold client assets in the name of a nominee company set up solely for this purpose, which reinforces the separation between client assets and their own.

Subscribe to MoneyWeek

Become a smarter, better informed investor with MoneyWeek.

So in theory, the collapse of a broker should result in nothing worse than some disruption while your assets are returned to you. However, this depends on the broker segregating client assets correctly and keeping accurate records. In practice, things can go wrong and assets may be missing either due to fraud or negligence. If that happens and there's not enough money left in the broker to compensate clients for their missing securities, the Financial Services Compensation Scheme (FSCS) will step in (see below).

Behind the scenes, things get more complicated. If you're invested in a fund, the fund is run by a fund-management company, but the assets willbe looked after by a fund administrator and held at a custodian (a firm that specialises in holding assets for others). In some cases often if you're dealing in international shares your individual securities might also be held at a custodian, rather than directly in the name of your broker. Custodians may in turn appoint sub-custodians to look after assets for them in certain markets.

Advertisement - Article continues below

And ultimately, ownership of all these securities is usually electronically recorded in a national central securities depository (CSD), allowing easy transfer of ownership. We've come a long way from paper certificates and registers.

Find out how you're protected

The upshot is that it's extremely difficult to understand all the theoretical points at which the failure of a company you've never heard of could affect your investments (the above paragraph isn't intended to explain anything, but just to hint at the complexity). That said, realistically, there's little point in worrying about the biggest fund managers, the global custodians and the CSDs. These entities control many trillions of dollars of assets and must be considered too big to fail. The most likely risk is the collapse of a stockbroker, fund supermarket, trading firm or a small fund manager, which is why it's important to understand how the FSCS protects you if the worst happens (see box below).

What's protected and what isn't

The protection that the FSCS compensation scheme provides for investments is different to the cover it provides for bank accounts. If you deposit cash with a bank and the bank goes bust, the FSCS will pay compensation of up to £75,000 (per person per bank) to cover your losses. If you hold more than £75,000 and the bank goes bust, it's likely you will lose some of the excess.

If you hold securities or cash with a broker that fails, you should still get back your assets. The FSCS provides cover of up to £50,000 (per person per firm) to help cover any shortfall. Since you should also get some of your assets (unless every penny is missing from the firm), an account with, say, £60,000 in it probably wouldn't take a loss but one with £600,000 might be less certain. The same £50,000 limit applies if a fundmanager fails and assets are missing from its funds due to its actions.

If you have cash in your brokerage account, the broker will usually keep that cash in a "client money" account with a bank (unless it has its own banking licence). If that bank goes under, you get the same £75,000 protection on that cash as you would if you held a bank account directly. However, if it's the broker's fault that the cash is missing, it's part of the overall £50,000 limit for your brokerage account. All this only applies to UK-based firms. Offshore funds and brokers based outside the UK (including European ones "passporting" into the UK) will only be covered by their local compensation scheme (if any). In most cases, these are less comprehensive than the UK scheme.



Investment strategy

Green investment: from "sensible re-pricing" to full-on mania

Change is afoot, says John Stepek. Everyone is waking up to the fact that we need to do more to protect the environment. That presents opportunities f…
13 Feb 2020
Investment strategy

The secret to avoiding being panicked out of your portfolio

With the coronavirus continuing to occupy headlines, investors still aren’t sure how to react. But the one thing you mustn’t do is panic. Tim Price ex…
11 Feb 2020
Investment strategy

Just five assets matter for investors. Here's what they are

Every investor’s needs are different – but most can be met by the right combination of five investments
11 Feb 2020

Winners and losers from a hard Brexit

Our exit from the EU is likely to be of the hard variety, says Matthew Lynn. Investors should back the industries that will flourish
9 Feb 2020

Most Popular

UK Economy

Britain has a new chancellor – get ready for a major spending splurge

The departure of Sajid Javid as chancellor and the appointment of Rishi Sunak marks a change in the style of our politics. John Stepek explains what's…
14 Feb 2020

Money Minute Friday 14 February: The latest from RBS, Britain's state-owned bank

Today's Money Minute previews results from RBS – Britain’s state-owned bank – and from pharma giant AstraZeneca.
14 Feb 2020

Living on a houseboat: the pros and cons of a floating home

Living on a houseboat sounds romantic and peaceful. But it’s not as straightforward as it looks, says Nicole Garcia Merida
14 Feb 2020

Is 2020 the year for European small-cap stocks?

SPONSORED CONTENT - Ollie Beckett, manager of the TR European Growth Trust, on why he believes European small-cap stocks are performing well.
12 Feb 2019