Central Bank warns finance firms about selling risky complex products

Structured products have gained in popularity in recent years as an alternative to cash deposits, which have yielded very little

The Central Bank’s Colm Kincaid warns that as the complexity of financial products increases, so too do the risks to investors

John Ihle

April 23 2022 02:30 AM

Financial firms are putting customer money at risk by investing it in overly complex products their clients don’t fully understand, the Central Bank has warned.

The regulator has written to firms that sell so-called structured retail products ordering them to tighten up customer protections by warning more prominently about risks associated with the investments.

The ‘Dear CEO’ letters followed a detailed review that found structured investments were becoming more complicated but that firms weren’t updating their disclosures to reflect that.

The Central Bank found that financial firms weren’t considering the difficulties investors might have in understanding the features involved in the products. It also found that information about performance and capital risk wasn’t presented in a fair and balanced way in marketing materials.

“The retail investment market is changing rapidly, with an increasing shift away from traditional, capital protected products to more complex, capital at risk products,” said Colm Kincaid, the Central Bank’s director of consumer protection.

“As complexity increases, so too do the risks to investors and the responsibilities regulated firms have to protect those investors’ best interests. We want to see that complex investment products are designed with real investment needs in mind, that they are targeted only at investors with those needs and that the risks are properly explained.”

Structured products are investment vehicles that use a bespoke mix of financial instruments to achieve a particular investment goal, typically a certain percentage return over the term of the investment.

Unlike a direct investment, the customer typically does not own an underlying security. Instead, a structured product will use derivatives like options, which provide a known financial outcome under defined conditions. They are created by investment banks and sold through retail banks, wealth managers and other investment firms.

Structured products have gained in popularity in recent years as an alternative to cash deposits, which have yielded very little. Customers with large lump sums have even been charged negative interest rates in recent years.

However, the investments carry more risk than cash and require a higher level of information to be communicated to customers.

The Central Bank said it now expects investment firms to raise their standards in this area and that it will be monitoring developments in the retail investment market through supervisory inspections.