Investment and risk

Unlisted securities in the UK comprise shares in companies that are unquoted on the main market of the London Stock Exchange (LSE) – the Official List

The largest market for unlisted securities is the Alternative Investment Market (AIM) which compr...

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They are less liquid than listed shares, suffer higher volatility in price and often transaction costs are higher.

Investors into EISs likewise tend to be able to fund larger sums and can afford to offset the higher risk nature of the investment against the rest of their portfolios. In many ways they can be considered as even high risk due to the fact that the investor is placing funds into one unlisted company (thus not benefiting from any diversification)

There are generous tax reliefs for placing funds into an EIS but these are subject to certain conditions

The initial investment qualifies for 30% income tax relief on amounts up to £1,000,000 per tax year. No relief is provided if the investment is less than £500. The relief is given as a reduction on the investor’s overall income tax liability. Investors can carry back income tax relief to the previous tax year by claiming that the...

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The amount that a company can raise through the scheme is limited to £150,000

Investors will not be able to claim the relief until the company has spent 70% of the money raised

Money raised through the scheme must be used by the company within a 3 year period

The company may have subsidiaries

Eligibility is by reference to the age of the trade rather than the company

Relief is not available to current employees

The company must also; 

- Have less than 25 employees

- Have gross assets less than £200,000

- Be less than 2 years old

- Not have raised any funds from EIS or VCT investors

- Carry on a genuine new trade

Investors into VCTs again tend to be able to fund larger sums and can afford to offset the higher risk nature of the investment against the rest of their portfolios

VCTs operate in much the same way as conventional investment trusts as a collective investment scheme that comprises the securities of largely unl...

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The company must satisfy a number of other conditions similar to EIS companies

As VCTs have a five year qualifying period in order to retain the full tax relief, the market for these investments is illiquid. It does not necessarily improve after five years either.

It is important to have an outline knowledge of these investments in respect of savings and investment planning. They can be used either as a tool to reduce risk or as highly speculative instruments.

We will concentrate on providing a brief explanation of the main types of derivatives although you should be aware of the fact these investments come in many different guises.

Examples of some derivatives are futures, options, warrants and swaps.

Financial futures

Forward Contracts

A forward contract is an agreement to purchase a certain amount of a particular commodity at a specified date in the future at a specified price

Such a contract may give a buyer some security in terms of a definite price in the future but what if that price in the future date turns out to be higher than the market price at that time?

A futures contract will give a buyer the opportunity to “hedge” against price changes.

Futures Contracts

A futures contract is a type of forward contract that is traded on a recognised exchange with contract terms specified by the rules of the exchange

Such a contract can be to buy or sell commodities, currencies or securities such as shares

Futures are traded using “margin” payments. The trader will therefore only have to put up an amount of money ...

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Warrants

Warrants are a type of option that offer the owner the right to buy the ordinary shares of a company at a fixed price at a fixed date in the future. Warrants can be bought and sold separately on the markets in the same way as options.

Swaps

A swap is the exchange of a product, interest rate or currency for another product, interest rate or currency

Product swap. For example A owns wheat but requires corn. B owns corn but requires wheat. As a result the two swap. Such a barter trade is known as a “Countertrade”

Interest rate swap. For example C agrees to pay a fixed amount of interest on £50,000 each year for 10 years to D. In exchange, D offers to pay a variable rate of interest to C on the same amount for the same timescale. Such a swap demonstrates that C thinks that interest rates will rise and D believes that they will go down

Currency Swap. These are used to reduce the risks of loses arising from changes in exchange rates. For example, A wants to borrow US dollars but he has a good credit rating in England and can borrow the required money in sterling. B can borrow money in the US in US dollars but wants sterling. The two parties swap their loan facilities. They then have the loan in the currency they want and pay interest in that currency.

An investor will buy shares in the ETF which is quoted on the stock exchange like an inves...

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Investors pay stockbrokers commission when they buy and sell; however, there is no stamp duty to pay on purchases.

ETFs can be placed within a NISA wrapper.

Traditional “absolute return” hedge funds attempt to profit regardless of the general movements in the market. ...

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Cost – Hedge funds typically levy performance related fees which are paid by the investor if certain performance targets are achieved, otherwise paying a fee comparable to any other growth fund. Performance fees can be big with 20% or more of the net new highs being common.

Funds can be authorised if constituted in other European Union states

If authorised in designated territories such as Bermuda, Guernsey, Isle of Man, Jersey

Funds can be recognised and thus authorised by the FCA on an individual basis.

Commonly, these invest...

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Non Distributor Status

This category of fund is often referred to as a roll up fund

All income is accumulated in the fund

On receipt of a distribution or on total encashment, a charge to income tax arises rather than capital gains tax

Those not resident in the UK will pay no UK income tax or capital gains tax on an offshore holding but they may be subject to tax in their new place of residence.

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The costs an employer incurs in setting up an approved SAYE Scheme are allowable as a deduction in computing the employer's profits for corporation tax purposes.

The scope of this material is not wide enough to cover the subject of pensions in any great detail.

However, when considering an individual’s savings and investment needs, pension planning could be a key priority.

A range of pension arrangements are available cove...

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Where benefits are drawn at retirement, part of the accumulated fund can be secured to provide a tax free cash sum/pension commencement lump sum of up to 25% of the total value of benefits, the balance will need to secure an income which will be taxable.

Returns from valuables and commodities will be in the form of increases to their market price in comparison to the price originally paid for these types of investment do not generate income in the form of say, dividends or interest payments

Investing in valuables can of course generate further costs such as sto...

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