MONEY COMMENT
The Perils of 'Low-Risk' Investments

By Cliff D'Arcy
March 2, 2004

The Department of Trade and Industry (DTI) has closed down several companies involved in property investing scams. Practical Property Portfolio (PPP) and ten associated companies were wound up in the High Court yesterday.

PPP ran a bogus investment scheme that promised annual returns of 15% to investors willing to part with at least £18,000. In theory, PPP would use investors' money to buy properties, which would then be refurbished and let to social housing tenants, with rents secured by state housing benefits and insurance guarantees. In reality, most of the houses were never refurbished nor let. In fact, many were boarded-up houses in derelict streets in the North East, worth a fraction of what investors had paid for them.

On the surface, PPP appeared to be a reputable company, employing over a hundred staff and advertising widely in the quality press, including weekly ads in leading investment magazine Investors Chronicle. In total, PPP 'sold' four thousand homes to over a thousand investors, who parted with around £100 million in total.

The DTI actually moved to close down PPP almost a year ago, as we reported here. Ironically, this came at a time when we were conducting our own research into PPP, following feedback on our discussion boards from concerned investors - and last-gasp threats of legal action from PPP!

The thing that made me suspicious of PPP from the start was its promise of risk-free 15% annual returns, backed by rent insurance guarantees. This 'high return with no risk' claim simply didn't stack up: for example, the UK stock market has returned an average of around 12.5% a year since 1945, with income reinvested. And we know how risky shares can be, don't we?

On the subject of investing in shares, the Financial Services Authority, the UK's financial regulator, is meeting the heads of leading split-capital investment trust companies to discuss the terms of a compensation deal for thousands of investors.

In theory, 'split caps' were safe investments, often promoted as ideal low-risk savings vehicles for school fees and the like. In practice, managers took great risks, borrowing from banks to invest alongside investors' money (a practice known as 'gearing'). These managers also invested heavily in each other's trusts, and came unstuck in a big way when the stock market dived after 1999.

Split-cap managers now stand accused of failing to act in the best interests of investors, colluding in a 'magic circle' that propped up the share prices of each other's trusts, and failing to make clear the true risks of investing in these trusts. Although there is no evidence of fraud or corruption within the split-cap industry, clearly the industry has been hit by greed and incompetence.

So, two investments: one bogus, one disgraced. However, they have something in common: both could been avoided if investors remembered the old saying, "If it looks too good to be true, it usually is."

The lesson for investors is: forget the company name and ignore the glossy brochures, convincing adverts and smooth sales pitches. You can't rely on financial services companies to look after your interests; you must do it yourself. Start improving your investment knowledge today - and please steer clear of anything you don't understand!

More: Visit the Fool's Financial Scams discussion board | Investments That Sound Too Good To Be True | Split Capital Shocker.