The Financial Services Authority has come under fire for branding traded life policy (TLP) funds ‘toxic’ and ‘high risk’, which subsequently caused a run on the funds and left many investors unable to withdraw their money.

The $955 million (£608 million) EEA Life Settlements Fund, thought to be the biggest TLP fund available to UK investors, suspended dealing a few days after the FSA warning, due to a huge rush of redemption requests.

Often nicknamed ‘death bonds’, TLP funds invest in US life insurance policies. The fund managers pay the policy premiums, and when the original policyholders die, the funds receive the payouts, which are distributed to investors as income. In the past these funds have paid out a high level of income. However, they can have liquidity problems, especially when a stampede of investors tries to get its money out or policyholders live longer than expected.

As Money Observer highlighted in 2010, the FSA has been closely monitoring the TLP industry and has previously outlined risks with the asset class, but it was not until the end of November 2011 that it released a strong warning that the products were ‘completely unsuitable’ for most retail investors and that it wanted to ban them from being marketed to UK retail investors.

However, some financial advisers have questioned whether the watchdog was right to issue such a strongly worded warning, with several saying that, because it made investors panic and triggered a run on the investments, the FSA was ‘irresponsible’.

Dennis Hall, founder of Yellowtail Financial Planning, has never recommended TLP funds, as he believes they are too opaque and illiquid. But he says: ‘I think it was irresponsible of the FSA to announce the review in the manner it did. This will only cause problems for existing investors.’

Anna Sofat, founder of Addidi Wealth, agrees. ‘It’s regretable that the FSA has called these funds “toxic” – that is a sure way to kill off the market and cause problems for existing funds,’ she comments. ‘It would be more useful for the FSA to undertake a review of the funds being marketed in the UK. It’s not constructive for the FSA to review a product and deliver damning reports without [offering] guidance for the public as to what constitutes a good TLP and a bad TLP.’

But a spokesperson for the FSA defends its actions, saying: ‘We believe many of these funds have been in difficulties for some time, and as they tend to be based offshore, existing customers may find they cannot access the Financial Ombudsman Service or the Financial Services Compensation Scheme if things go wrong.’ The spokesperson adds that liquidity risks in TLP funds mean suspension of trading is always a possibility, but this does not necessarily mean existing investors will lose their investments, though receiving their money may take some time.

The EEA fund is generally considered to be one of the better TLP funds. It has had an annualised return of more than 9 per cent since it launched in 2005.

EEA fund investors are normally allowed to withdraw their money or put more money in on the first business day of the month. However, due to the suspension, this was not allowed on 1 December. The board of the fund says it will resume dealings ‘as soon as it considers it prudent’.

Other TLP funds have been in trouble since before the FSA warning. The Assured Fund ran into cash flow problems in the spring of 2011. Investors wanting to withdraw money had to do so at the net realisable value of the fund, rather than the net asset value, resulting in a 30 per cent discount for some investors. 

Andrew Walters, finance director at Policy Selection, which runs the fund, says the fund is not suspended, but it is continuing to process redemptions on a realisable basis. However, one Money Observer reader who requested to withdraw their investment from the Assured Fund in November 2010 has yet to see any money.

Meanwhile the Matrix Income and Growth TLP fund, which is domiciled in Guernsey, is also suspended.