In the middle of a major market panic when all your investments are plummeting in value, the last thing that you want to worry about is whether what remains of them is safe. But anybody who’s been investing for a few years will know that, from time to time, stockbrokers, wealth managers and other investment firms fail. And crises are often accompanied by at least one such blow-up (although small brokers go under frequently enough anyway – the most recent example was SVS Securities in August last year). So if you’re wondering what rules exist to protect your investments, here’s a quick outline.
The key point is that investments you hold through properly regulated UK investment firms should be held on trust for the customers and segregated from the firm’s own assets. Your shares will not be registered in your own name, but they will be in the name of a nominee company, which is a subsidiary set up solely for this purpose of holding clients’ assets. If the investment firm fails, its creditors don’t have a claim on these assets.
This is important, but not always sufficient. When firms fail, it sometimes turns out that this segregation hasn’t been enforced properly. Assets may be missing or mixed up with the firm’s own. That can be due to negligence and bad record-keeping: don’t underestimate the degree of chaos that may prevail in a firm before it goes bust.
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Or it could be fraud: even if somebody hasn’t set out to steal from clients’ accounts, the temptation to dip into them to keep things going when the firm is in trouble may occasionally prove too hard to resist. In general, fraud seems more likely with cash balances than shares, bonds or funds, so keeping less cash in your account may reduce – but not eliminate – your exposure to this risk.
If the firm fails and cash or investments are missing, the Financial Services Compensation Scheme (FSCS) should be there to plug the gap (see below). But the process of identifying shortfalls, returning assets to clients and paying compensation can be quite protracted. SVS Securities’ clients are still waiting, for example. You don’t want your account frozen for months at the best of times and certainly not in a market like this.
That’s why we’d suggest that if you only have a single account, it’s best to stick with one of the largest and most reputable firms, who are very unlikely to fail. If you want to use a smaller firm – and there may be good reasons to do so – we’d suggest splitting your portfolio across more than one company to minimise the disruption if the worst happens. Finally, be aware that all this applies only to fully regulated UK firms. Those offering unregulated investments or those outside the UK may offer less or no protection, depending on the rules that apply to them.
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 as well as 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 – such as the proceeds from a house sale – for up to six months from when the amount was deposited).
So if you have substantial cash savings, you may want to have accounts with more than one financial institution. But if you split your savings like this to maximise your FSCS cover, be aware that many bank brands share the same bank licence, so check you are genuinely saving with two separate institutions.
Bank and building society failures are urgent – people rely on their money to be able to pay their bills. So the FSCS aims to pay within seven days of the institution going under.
If your broker goes bust and there is a shortfall in clients’ assets, the FSCS will pay out up to £85,000 per client (not per account) to top up whatever can be recovered from the broker. So if a broker owes you £90,000, but you only get back £40,000, you should be entitled to another £50,000 from the FSCS. However, if you have two accounts with the same broker holding £90,000 in each and you get back £40,000 in each, the FSCS will pay you a maximum of £85,000 – leaving you £15,000 short.
The £85,000 limit should cover any likely shortfall for most investors (remember that you also get what remains of your investments back and it would be unusual – though not completely unknown – for a very large percentage of overall assets to be missing). But if you have a large account and you are worried, consider splitting your assets across more than one provider.
Payouts for failed investment firms are much slower than for banks. Eight out of ten investment claims will be paid within seven months, according to the FSCS website (FSCS.org.uk).
Cris Sholto Heaton is an investment analyst and writer who has been contributing to MoneyWeek since 2006 and was managing editor of the magazine between 2016 and 2018. He is especially interested in international investing, believing many investors still focus too much on their home markets and that it pays to take advantage of all the opportunities the world offers. He often writes about Asian equities, international income and global asset allocation.
Cris began his career in financial services consultancy at PwC and Lane Clark & Peacock, before an abrupt change of direction into oil, gas and energy at Petroleum Economist and Platts and subsequently into investment research and writing. In addition to his articles for MoneyWeek, he also works with a number of asset managers, consultancies and financial information providers.
He holds the Chartered Financial Analyst designation and the Investment Management Certificate, as well as degrees in finance and mathematics. He has also studied acting, film-making and photography, and strongly suspects that an awareness of what makes a compelling story is just as important for understanding markets as any amount of qualifications.
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