Some customers of bust broker Beaufort Securities could suffer unexpected losses, says John Stepek.
When you invest with a stockbroker, your assets are ring-fenced from the broker's own. This means that if the broker goes bust, your assets remain intact, and the company's creditors don't have a claim on them. There may well be a delay in getting your money back, and the value of your assets may fluctuate during that time. But in principle, your assets should still be there. And if it turns out that this ring-fencing wasn't being observed by the broker, and that money has been lost or stolen, then the Financial Services Compensation Scheme (FSCS see box below) covers up to £50,000 of any shortfall.
However, the latest stockbroker collapse has flagged up a risk that many investors may not have been aware of. Broker Beaufort Securities was shut down by the UK financial regulator, the Financial Conduct Authority (FCA), in early March, after the US authorities charged the company with being involved in fraud and money laundering. PricewaterhouseCoopers, the administrator, reckons that in a worst-case scenario it could take up to four years, and cost up to £100m, to return the £550m in cash and assets held by clients of Beaufort. The obvious question is: who foots the bill?
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And the answer, at least in part, is Beaufort's private-investor clients. While creditors have no claim on these assets, the FCA's special administration scheme means that administrators can cover their costs out of clients' money. To be specific, around 700 customers (out of 15,000) with portfolios worth more than £150,000 could endure haircuts of as much as 40%.
This is unfortunate for investors with the defunct Beaumont, but it's also worrying for anyone with a reasonable-sized pension pot. John Lee, a Liberal Democrat peer, notes that the idea of funds being up for grabs to pay an administrator hardly inspires confidence in dealing with smaller brokers. He is using his position in the House of Lords to pressure the government to fix this. Big brokers must also realise that any sort of uncertainty as to the security of their clients' assets is a major potential business risk they should be equally keen to see this issue tackled.
But what can you do meanwhile? Ultimately, Lee is right you have to consider the solvency of your broker. You could go to Companies House and check their accounts, but in practice it's more likely to mean that more people will use the big brokers for the lion's share of their funds, and keep holdings with smaller specialists to below the FSCS limit hardly the way to encourage a competitive, healthy market.
I wish I knew what the FSCS was, but I'm too embarrassed to ask
The Financial Services Compensation Scheme (FSCS) covers both banks and building societies and investment accounts. If a bank goes bust the FSCS will pay compensation of up to £85,000 per person, per bank to cover any losses (or up to £1m if the money is there temporarily the proceeds from a house sale, say).
So if you have substantial cash savings, you may want to have accounts with more than one financial institution (and if you do split your savings, be aware that many bank brands share the same bank licence, so check you are genuinely saving with two separate institutions).
As for brokers, if yours goes bust (assuming it is based in the UK overseas brokers will fall under different compensation schemes, assuming there is one at all) and there is a shortfall in client assets ie, money that should be in a segregated account turns out not to be then the FSCS will pay out up to £50,000 per client (not per account) to top up whatever can be recovered from the broker.
So if a broker owes you £70,000, but you only get back £40,000, you should be entitled to another £30,000 from the FSCS. However, if you have two accounts with the same broker holding £70,000 and £80,000 and you get back £40,000 in each, the FSCS will pay you a maximum of £50,000 leaving you £20,000 short.
You can choose to make an FSCS claim after getting some money back from the insolvent broker, or before it pays out anything. When you make a claim, the FSCS takes over your claim against the company. So, if you are owed £70,000, the FSCS will pay £50,000 and make a claim for £70,000. If it gets £15,000, it passes all of that onto you. If it gets £30,000, it pays you £20,000 meaning you get all your money back and retains the remaining £10,000 to recover some of its losses. For more details, see FSCS.org.uk.
John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.
He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.
His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.
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