Fund Linked Solutions Platform

INVESTMENT OBJECTIVES

Why do we invest in financial assets? Irrespective of the personal investment objectives, we invest in a range of holdings to grow our wealth. No investor would be content to have less, rather than more capital as an outcome of the investing process! Some investors want to grow their wealth rapidly and extensively. In contrast, others are more content to have slower gains over time. Investors all have unique risk profiles that accompany their investment objectives and investment time frames.

In a traditional investing environment, to have more wealth, investors need the price of their purchased assets to increase. Unfortunately, asset prices do not always rise within the intended investment time horizon. Asset prices are influenced by a range of factors, from the economic environment and asset-specific elements, to market sentiment (what other investors think of the asset).

Being reliant on increasing asset prices to generate increased wealth is not always achievable. This dependence made some financial market practitioners look for other ways to achieve gains even if prices were not necessarily growing at the desired pace. The “other ways” is where the hedge fund industry positioned itself. Initially unregulated, hedge fund managers sought to use more complex financial instruments to increase wealth or minimise losses, even when asset prices were not rising. They also sought out mechanisms that could accelerate wealth accumulation or reduce the risk associated with asset investing. Minimising losses and accelerating gains mean compounding investment returns at an increasingly higher base, allowing hedge fund managers to outperform general markets.

While the hedge fund industry is now globally more regulated, accessing hedge funds still tends to be the domain of high-net-worth individuals. The financial complexity and tools remain off limits. In other words, you already have to have money to make more money! And if money makes money, then those that have it keep extending their wealth.

Chris Edwards, Head of Prime Services, Index and ETF

INCREASING INVESTMENT WEALTH

In pursuing investment wealth growth, there are some typical ways to accelerate investment gains. Investors can make significant returns by investing in volatile financial assets. For example, if the stars align, a small “penny-stock” company

that could be worth zero can grow to many multiples of the original price. Concentrated investing in potentially volatile equities can lead to spectacular returns. However, to have the potential for stellar returns, there is a material amount of investment risk associated with the decision. The other mechanism for gains acceleration is the use of leverage. Leverage comes in one of two forms. Leverage can be inherent to the financial instrument, as with derivative instruments, or leverage means investing with borrowed money. Investing with borrowed money allows investors to increase their exposure to a financial asset. If the asset performs well, there is plenty of capital to repay the borrowed money and make considerable gains on the original investor amount. It does of course, work in the opposite direction, too; leveraged Chris Edwards, Head investing can lead to material losses. of Prime Services, For most investors, the primary risk they seek

Index and ETF to avoid is a capital loss, wealth destruction. Many of the complex financial tools used by hedge fund managers allow for strategies that protect capital. Capital protection is a way to guarantee that the initial investment will be safe regardless of what happens. While a capital loss is a chief investment risk, volatility, the potentially wild swings in asset prices, is another type of risk. Again, hedge fund managers have tools to control or dampen the volatility of some of their investments. It allows them to be “on the roller coaster” but the gentler version. As a retail investor, investing with borrowed money, leverage is not a readily available tool. Inserting a level of capital protection is not an available tool. And mechanisms to dampen volatility are also not available in the retail investment space. Retail investors have until now, minimal investment tools at their disposal.

DEMOCRATISING THE PLAYING FIELD

The Absa Fund Linked Solutions (FLS) platform is revolutionary in that it provides a full suite of tools designed to democratise the investment playing field. The tools that were once the preserve of hedge fund managers alone are now available to all investors. With the help of their financial advisor, the platform allows all investors to combine traditional financial asset investing with a range of advanced investment features. This offering sounds fantastic, but what does this mean?

The Absa FLS platform allows retail investors to select from their favourite CIS funds, including retail hedge funds and Exchange Traded Funds, and then apply a range of specialist tools. Those tools include the ability to leverage the fund, add a level of capital protection to the investment, manage the amount of volatility, or use those tools in combination.

By using the range of tools: leverage, capital protection, volatility control or a combination, investors can tailor the investment characteristics of funds to their specific individual needs.

THE PLATFORM AT WORK

The Absa FLS platform achieves this bespoke investment tailoring by offering four different strategies to investors. The Delta One strategy, the Protection strategy, the Leverage strategy and the Risk Managed strategy. What is key to realise is that these are not off-the-shelf products or fixed solutions. Instead, these are strategies in which investors can select their favourite funds and then add leverage, protection, or risk management features.

For example, investors may have a range of equity-based CIS funds they have invested in over many years. They may agree with the investment philosophy and approach of the asset management house and want to remain investors. However, they may temporarily be unable to tolerate any investment capital risk. By using the Protection strategy on the Absa FLS platform, the investor can keep investing in their equity fund favourites and add a level of capital protection.

Or imagine an investor who loves a particular balanced fund. However, they know that while the fund might be an excellent long-term choice, it is unlikely to “shoot the lights out” in the shorter term. This scenario is where the Leverage strategy becomes powerful. An investor can keep their favourite more conservative fund but add leverage.

Adding leverage means that the Absa FLS platform loans the investor an appropriate amount of money to invest in the fund. Suppose the investor had R50 000 of investment capital and Absa loans the investor another R50 000. Now the investor can invest R100 000 in their favourite balanced fund with their investor capital plus the Absa loan capital. Imagine the fund rises by 10% over the year. That is a gain of R10 000 on the combined loan and investor capital allocation of R100 000. A 10% gain on the investor capital alone without the loan capital would be R5 000. By increasing the exposure to their balanced fund using loan capital, the growth is leveraged to R10 000. Of course, this assumes the fund returns are positive. Leveraging up gains is not the only direction in which leverage works – losses can be leveraged down. However, the Absa FLS platform opens up this feature for retail investors to alter their investment characteristics appropriately.

Another example would be an investor who admires the analysis and thinking of a fund manager who manages a more niche investment fund. Perhaps the manager participates in a smaller market segment, resulting in the fund prices varying wildly from day to day. Selecting a niche, more volatile fund and reducing the volatility of this specialist fund is a scenario suited to the Risk Managed strategy. It’s another opportunity to invest in your favourite fund but use the Absa FLS platform tools to tweak the investment characteristics to suit your investment needs.

THE POWER OF THE ABSA FLS NOTES

As mentioned above, the Absa FLS platform offers four strategies. The delivery vehicle of all the strategies is a Bank Note issued by Absa. Inside the Note, investors select the funds they love and then change the characteristics of those funds to suit their investment objectives. By investing in a strategy via the bank-issued Note, the investor owns the Note rather than the underlying funds directly. This allows the Absa FLS platform to manage the strategies inside of the Note automatically. Investment objectives change over time, and all the tools and features provided by the Absa FLS platform have the flexibility to be turned on and off at the investor’s sole discretion.

Feeling bullish about the markets? Turn on leverage… Feeling bearish about the markets? Turn on protection…Feeling like markets are poised for a big move, but uncertain whether it will be a rip higher or a downward crack? opt for leverage and protection. The power of the Absa FLS platform and Notes means that investors have all the tools and flexibility to customise their investment characteristics without having to chop and change funds.

Finally, the Delta One strategy is the starting point for implementing the power and flexibility of the Absa FLS platform. The Delta One strategy allows investors to select the range of investment funds of their choosing and potentially turn on some smart rules-based rebalancing. With a Delta One Note in place, the Protection strategy, the Leverage strategy and the Risk Managed strategy or a combination become available.

The Absa FLS platform is accessible via a LISP platform, and strategies can be implemented with the help of a financial advisor. The Absa FLS platform allows investors to keep their favourite funds and level up the investment playing field with sophisticated, but flexible and accessible investment tools. •