Investors may sue insurers over fund fiasco

Outraged professionals allege two British firms provided misleading marketing material

Dozens of Hong Kong investors are considering legal action against two prestigious British insurance companies, alleging they sent out misleading marketing material.

The investors, understood to include wealthy bankers, lawyers, accountants and other members of the professional elite, are outraged at the deteriorating quality of their investments after they poured money into a class of offshore guaranteed funds distributed by Scottish Mutual International (SMI) and Clerical Medical International (CMI).

Two weeks ago, the Sunday Morning Post revealed that hundreds of Hong Kong people could stand to lose huge amounts of money through what they thought were fail-safe investments.

Stephen Peaker, a lawyer with law firm Oldham, Li & Nie, says it has been 'contacted by a number of investors who have raised issues in relation to their investments with CMI and SMI'.

Due to weak stock markets in recent years, investors who retire early from underperforming policies could face withdrawal charges of more than 40 per cent. In cases where borrowed money was used to boost the investment, they could lose their entire investment and still end up owing money.

One furious Hong Kong investor who bought into both SMI and CMI with-profits funds called for collective action. 'I believe all disgruntled investors should join together in an association for the defence of our rights and force CMI and SMI to disclose details of their investments. We have been totally misled based on their literature and very old historical records.'

Independent financial adviser Bridgewater acknowledged that some of its clients who bought into the funds were exploring legal recourse.

One key issue is whether investors were made aware of the risks involved with leveraging - using borrowed money to boost the size of the investment.

Some investors borrowed up to three times their initial capital, a practice also known as gearing, in the quest for racier returns. Estimates from industry sources suggest between 50 to 80 per cent of with-profits investments were leveraged.

The capital guarantees backed by the funds promise to repay the initial investment, including the geared sum, if the funds are held until maturity.

However, investors who exit the funds early are assessed for a penalty known as a market value adjuster [MVA].

'The standout feature of both of these funds is the leveraging,' Mr Peaker says. 'If you apply the MVA without leveraging it's not great, but if you apply the MVA with the leveraging it becomes very serious indeed. It does not seem that investors were made aware of the problems and the nature of leveraging.'

In the case of some funds, the annual bonus payment - the investors' share of the profits - has shrunk to zero, leaving investors with leveraged investments that are losing money.

If borrowing costs rise in the next few months and the annual performance bonus remains flat, investors could face substantially larger loses.

CMI regional director Mark Rawson says not all with-profits investments have done badly and that some will meet investors' expectations.

He says CMI accepted leveraged investments but did not actively encourage gearing. 'We believe that the responsibility for the appropriateness of the advice sits with the person who knows the client best and that's obviously the adviser,' he said.

David Wilkinson, a financial adviser at fee-based advisory firm Private Capital, agreed investors should not overreact.