Unregulated investments, many of which are high-risk, not only in the sense of the asset class but also potentially in terms of the underlying assets, and some of which are just outright scams, have become a major problem in the UK. Since the introduction of pension freedoms in April 2015, the UK has seen a growth in unregulated, unlisted, high-yield investments being marketed and sold to members of the public, often as low-risk opportunities. While such investments might seem low-risk at first glance, not least because of the security and assurances set out in the promotional materials, claims of such high returns in an era of low interest rates should raise alarm bells.

Research highlighted by the FCA in 2019 indicated that 42% of pension savers, equivalent to over five million people, could be at risk of falling victim to one or more of the common tactics used by pension scammers. Illustratively, if each of those potential investors had £50,000 to invest, the potential prize for those promoting and running such schemes would be a staggering £250 billion (bn). It’s not surprising that scheme operators, whether scammers or not, might want to access that kind of money.

Classifying such investment schemes is not straightforward, but there are certain features that characterize the problem. There are many types of underlying businesses, schemes and assets on offer such as property development, foreign exchange, cryptocurrencies, agriculture and forestry, precious metals and even sports betting. In terms of property development, there has been a proliferation of unregulated investment schemes marketed as unitized property-backed investments, such as parking spaces in a carpark, storage units, or rooms in hotels, student accommodation and care homes. Typically, investors are offered high-yield bonds or loan notes with a range of maturities, often over a longer term, meaning that capital could be tied up for some time. Advertised returns are regularly up to 10% or more and some schemes include an attractive buyback clause.

Given the underlying income-generating “bricks and mortar” assets, it’s easy to see why such opportunities might be attractive. It’s a logical proposition that appears safe, but the reality may be quite different. If the advertised returns weren’t challenging enough in the current low-interest environment, commissions of up to 20% or more that are usually paid to sales agents or “introducers,” together with sometimes equally high management fees or other payments to the scheme operators, can be crippling, potentially causing a systemic flaw in the investment model. After operating costs have been paid and possibly other debt serviced, the underlying business should have a strong performance to be able to repay the original capital invested—and all of this assumes that the scheme runs perfectly and is not just being a scam from the outset. While some unregulated investment schemes might be well-intentioned initially—potentially adding to the attractiveness of the scheme at the time of promotion—they may go on to face challenges with their investments and their operations. This can result in issues snowballing over time to the point where the situation is irrecoverable. It may be the case that investors find out about such issues too late after attempts have already been made to recover the situation; by that time, investments might have become compromised, with value lost.

Of course, it’s important to have a good understanding of the investment opportunity beyond the glossy brochures, websites and sales talk from the beginning. Investment propositions can appear immensely attractive and credible, but it is vital that investors have a proper understanding of the true nature of the underlying business, any discretion the management might exercise to use capital, the legal structure, the nature of the financial instrument being offered, the involvement of introducers/agents and their fees and regulated parties, security over underlying assets, the trading history of the management team, and the rights of the investor.

Most of the drivers that contribute to the sale of high-risk, unregulated investments have existed for some time now.

  • People are free to invest their funds as they wish. The risk is to savings in whatever form, but pension freedoms have significantly increased the amount of funds available which has attracted the attention of investment scheme promoters seeking capital.
  • There is no requirement to take advice when drawing down a pension or investing, and research suggests that most people don’t take advice when accessing their pension funds.
  • The low interest rate environment remains.
  • Regulations permit the marketing of such investments to certain types of investor.

Compounding the above, COVID-19 may have made the situation worse. In addition to the obvious economic influences and stresses, lockdown has forced us to operate in a more virtual world, and we are more isolated and vulnerable than usual.

The marketing of unregulated investments to individuals is restricted to “high-net-worth” and/or “sophisticated” investors. However, potential investors qualifying as high-net-worth or sophisticated may not necessarily fully appreciate the risks associated with the investment, and those classifications do not provide immunity to old fashioned sales tactics and unconscious bias. Further, the assessment of an investor as high-net-worth or sophisticated is essentially one of self-certification and takes moments to complete. In reality, many of these schemes are marketed using persuasive or even high-pressure sales tactics to ordinary people, who may have raised funds by cashing in pensions or other life savings, through inheritance, or even through refinancing their home.

The authorities are well aware of the issue, but is enough being done? The UK government introduced a ban on cold calling in relation to pensions that came into effect in January 2019.  At the same time, the FCA was investigating London Capital & Finance, which collapsed later that month. So, there are legacy issues, but has the problem now gone away? Unfortunately, the answer to that appears to be no. There have been public awareness campaigns, which are important, and the FCA does, on occasion, take action against unregulated firms, but resourcing and the potential scale of the problem outside the regulatory perimeter mean that not very much has changed. The ban on pensions cold calling was a welcome step forward, but it may have had little impact on the promotion of high-risk, unregulated investments.

On a more positive note, the Work and Pensions Committee recently conducted a major inquiry into the problem of pension scams, making a range of recommendations in relation to reporting, prevention, enforcement and victim support. Additional legislation has also recently been passed or is in the pipeline. The Pension Schemes Act 2021 received royal assent earlier this year, providing for new preventative regulations and new enforcement powers for the pension regulator. Separately, the FCA recently issued a discussion paper to canvass views on changes that can be made to strengthen the FCA’s financial promotion rules for high-risk investments and for authorized firms which approve financial promotions. Positive steps indeed, but all of this takes time to put in place and to become effective.

In the meantime, if such a scheme collapses, the fallout may be complicated by poor record keeping, complex group structures, intra-group lending and the existence of charges over the underlying assets. This means that it might not be straightforward to establish what happened, and there may be competing claims for the remaining assets. More clearly needs to be done to prevent it from getting to this stage in the first place, but for investors who find they have a problem with their investment, they must understand their rights under the investment documentation and be aware of their options in terms of recovering their money.

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