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Keeping pace with a new breed of investors

Keeping pace with a new breed of investors

Emphasis on asset protection, privacy, products and expertise

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The Bahamas Investor Magazine
January 4, 2007
January 4, 2007

Like wealth accumulation, the concept of taxation is as old as civilization itself. And as tax regimes worldwide have swung from extremes to moderation, international financial centres (IFCs) such as The Bahamas have played a crucial role in the evolution of personal financial management.

Financial advisors observe, however, that tax avoidance (note: tax avoidance is legal whereas tax evasion is not) in today’s more equitable taxation environment is a minor reason that investors are turning to IFCs for their wealth management needs. Rather, investor interest in IFCs is being driven by the need for asset protection in an increasingly litigious world, as well as the search for superior investment returns, confidentiality and personalized attention for which the private banking sector has become reputed.

But, with the growing number of offshore and onshore IFCs available to high-net-worth individuals, the lead question The Bahamas Investor posed to a diverse group of financial professionals was whether The Bahamas has kept abreast of international advancements in the wealth management field and therefore maintained its ability to attract the attention of investors. The financial advisors respond with a resounding “yes,” pointing to the country’s socio-economic stability and modern legal system. Private banking and asset management have been core activities of the Bahamian economy since the country gained its independence from the United Kingdom in 1973, the advisors note, which has provided The Bahamas with a home-grown skilled financial services workforce. The progressive regulatory environment governing the investment sector, coupled with its intellectual resources, therefore provides The Bahamas with a competitive edge over many of the newer and/or less wealth management-focused IFCs, they add.

“You get more bank for your buck,” comments David Thain, general manager at Arner Bank & Trust (Bahamas) Ltd in noting that The Bahamas has concentrated on creating a regulatory environment that has enabled the wealth management sector to “make a name for ourselves” in offering a diverse range of investment fund structures catering to the specific needs of investors. Indeed, since 2003, The Bahamas has introduced a slew of legislative measures enabling for SMART (Specific Mandate Alternative Regulatory Test) funds that enable the creation of specific investor-tailored funds, the introduction of segregated accounts companies (SACs) which afford investors the ability to shield different assets from liabilities in separate “cell-like” accounts, and a little known structure in common-law countries known as the foundation, which is essentially a hybrid between a trust and a company. Legislation is currently in the pipeline which will also allow for the formation of private trust companies (see Another reason to look to Bahamas in this issue).

The quality of asset management and the protection thereof is a prime advantage offered by The Bahamas to investors in what has become a very competitive international arena, says Thain. Another benefit of an IFC is financial privacy. “Privacy is a right; we shouldn’t have to justify it,” Thain observes with regard to increased pressure from the Organization for Economic Cooperation and Development (OECD) to force IFCs to divulge the personal information of their investors. “The privacy product today is different from that of five to 10 years ago—it has been diluted, although that doesn’t mean it’s open house on peoples’ affairs,” he remarks. While The Bahamas, like other IFCs, conceded to certain OECD demands, banking privacy is still very much alive today, Thain says.

Christian Coquoz, managing director of Lombard Odier Darier Hentsch Private Bank & Trust Ltd, believes that The Bahamas is well positioned to compete in the global marketplace of IFCs based on its modern financial services legislation. And, while the private banks operating in The Bahamas will have to be vigilant that the right products are developed according to the changing needs of clients, he points out that the main competitive factor is service. “We’re not product driven, but service driven,” he adds.

Richard Evans, managing director of Sentinel Bank & Trust Ltd, says the value of personal contact should also not be overlooked in terms of high-net-worth client relations. “High-net-worth individuals want personal contact, which is why the private banks have a competitive edge [over the major retail banks]. You can’t emphasize this enough,” he stresses.

Furthermore, while The Bahamas does offer effective tax planning, high-net-worth investors are attracted to the islands because of the diverse range of investment funds available, says Ivan Sands, managing director of Credit Agricole Suisse (Bahamas) Ltd. And, he notes, The Bahamas is highly competitive with respect to the service costs on investments. “You’re not going to get a better price from any of the major financial centres.”

Investor trends
The last 10 to 15 years have seen the creation of “tremendous personal wealth” on a global level, of which the bulk is “new money” rather than “old money,” observes Evans. As such, today’s high-net-worth investors are younger and more sophisticated in their knowledge of the financial markets, he notes. While several of the financial advisors to whom The Bahamas Investor spoke suggest that today’s investors are more risk prone in search of higher returns, Evans disagrees: “Clients coming to The Bahamas are not looking to risk their assets. They’ve already done that and now they want to protect and preserve their wealth.”

In today’s globalized world of finance, where considerable emphasis is placed on investment diversification, investors are looking for jurisdictions that offer superior security, concurs Alyson Yule, managing director of Banca del Sempione (Overseas) Ltd and a director of the Bahamas Financial Services Board. She notes that, while today’s class of investor tends to be financially knowledgeable, this means their service expectations on the private banks/trusts and investment advisors are also higher. “Clients today will move to another financial services provider if they think they can get a better return. So, as a bank, you have to ensure that returns remain competitive and fees low,” she adds.

Ian Fair, deputy chairman of Butterfield Bank (Bahamas) Ltd, confirms a growing trend among today’s investors to be more actively involved with the structuring of the investment portfolio. This is particularly the case where family fortunes have been invested, he notes. “I’m seeing more hands-on involvement by families who were more passive in the past.” According to Fair, the biggest innovation in the high-net-worth wealth management arena is the greater investor propensity for risk. The higher risk takers either tend to be the children who inherited the family wealth or a younger entre-preneurial group of individuals who generated high levels of income at an earlier age than their parents. “The parents made it and the children now want to grow it,” he adds.

“More and more clients are pushing the [risk/reward] barrier and they are a lot more aware of what types of investments are out there,” comments Sands. As such, there has been a perceptible shift over recent years in the bank/trust and client relationship, he adds. “Before, banks presented clients with the various options on how they can enhance their returns. Today, there is a more active interest from clients in the investment process as well as knowing what products are out there.”

Investment tools
While not all high-net-worth investors require the establishment of an investment holding structure, many are families who are not only looking to grow their wealth but are also taking into consideration estate planning needs to protect the future financial well-being of their children or even grandchildren, financial advisors say.

Traditionally, trusts managed by third-party trustees (usually a family lawyer, accountant or banker) have been the preferred vehicles for housing family wealth. However, as several of the financial advisors note, a greater number of high-net-worth investors are now looking at means of retaining control of the trust within the family rather than relying on management by outside trustees. “The ultra-high-net-worth investor segment of the market, which typically has investable assets of $25 million or more, is no longer interested in having a third-party trustee of a trust, but rather to have the family control the trust,” says Fair.

To cater to this demand, The Bahamas has initiated legislation that will enable the creation of private trust companies, observes Yule. The directors of the “trust company” can be members of the family and in this sense, the company becomes the “trustee” of the trust. “We [The Bahamas] have been trying to come up with a solution essentially enabling clients to manage their own trusts,” explains Yule, and the new private trust company legislation will achieve this. The legislation is currently before Parliament, she notes, and should hopefully have been enacted by 2007. Yule believes that the trust company structure will hold more appeal for investors accustomed to living in common law countries. “The concept of a trust is more familiar to European investors,” she adds. Owen Bethel, president of Montaque Securities International, expects that private trust companies will also enable wealth managers to structure “private mutual funds” for their clients.

Foundations were introduced to The Bahamas in 2003. The foundation serves the same function as a private trust company, explains Evans. “It’s a company and a trust all rolled into one.” He notes that the main reason foundations were brought into The Bahamas was to cater to Latin American investors. Foundations are common in civil law countries and therefore investors feel more comfortable dealing with a familiar structure, he adds. Likewise, trusts are a more familiar concept to European investors, observes Yule, and they are aware of the legal environment. Essentially, by creating private trust companies and foundations, The Bahamas is offering the best of both worlds to investors accustomed to different legal and cultural environments, financial advisors say. “Basically, we will have an inventory of products that can be tailored to suit each investor,” comments Bethel.

Another Bahamian innovation is the SMART fund. Technically speaking, it is legislation enabling the creation of specific-purpose investment funds tailored to the needs of different investors. Thus far, five different templates of the SMART fund have been established in The Bahamas since inception in 2003, says Thain. He notes that the SMART fund is a useful vehicle for both individual investors as well as investment fund managers in that it can be structured for specific purposes with less restrictive reporting requirements. “It gives the industry the opportunity to design investment fund products to suit the needs of their clients,” he adds. While the SMART fund is still a relatively new concept, Bethel believes it could become a significant business generator for The Bahamas’ wealth management industry.

More recently, SACs were adapted for use in private wealth management from what had traditionally been an insurance industry risk management tool. A SAC is basically a multi-celled company that enables investors to structure their investments in a manner that avoids cross liability, explains Bethel. “The SAC was first adapted by the offshore mutual fund companies but it has now moved into the personal investor market,” he adds.

Investment products
While the mutual fund market was once the almost exclusive investment arena of the wealthy, today’s environment reflects the explosive growth in funds that occurred over the past 10 to 15 years as the major retail banks entered the fray to attract the investor’s dollar. The financial advisors with whom The Bahamas Investor spoke note that today there are even mutual funds that base their performance on the returns of other mutual funds—the net result being that the mutual fund market has opened up to cater to every form of investor from the low end to the upper rung of the personal finance ladder. “Mutual funds are now available to everyone,” observes Coquoz, whereas 10 years ago they were almost exclusively targeted at high-net-worth investors.”

The rapid growth of the retail mutual fund industry did serve to motivate the development of new more sophisticated wealth-generating products aimed at the high-net-worth segment of the investment market, financial advisors say. By combining traditional forms of investment with hybrid products such as structured products and index performance type instruments, today’s wealth managers are able to design tailored investment structures offering high returns, guaranteed capital protection or a combination thereof, depending on the needs of the individual investor.

Recent years have seen growing interest by high-net-worth investors in hedge funds, notes Coquoz. While hedge funds are generally perceived as being on the higher end of the risk spectrum, the types of funds available today have evolved dramatically to offer investors a range of options from a high risk/return position to protection on their initial capital investment. Basically, there is a hedge fund on the market to cater to every level of investor risk tolerance.

An important aspect the investor needs to bear in mind is that hedge funds are not regulated like traditional consumer investment products such as mutual funds, Coquoz points out. As such, hedge fund investors do not enjoy the same level of protection as their mutual fund counterparts. Another important difference between the hedge fund investor and that of the mutual fund is that the latter’s focus tends to be on the underlying value of the assets held by the fund. Hedge funds have shifted investor focus to the performance of the fund manager rather than the assets held, observes Coquoz. “When you invest in mutual funds, you’re investing in the underlying value of the investment. With hedge funds, you’re investing in the success and performance track record of the fund manager,” he adds.

With traditional equity and interest-based investments having produced below-average returns over recent years, high-net-worth investors have looked toward more innovative products, particularly where their capital investment is guaranteed, says Sands. “Structured products” are the wealth management industry’s latest offering in serving this need, he notes.

In simple terms, structured products are a hybrid form combining the elements of traditional investment instruments and the more exotic derivative tools. For instance, a structured product’s return can be based on the performance of a particular market index or a group of indices. The main attraction of structured products are the various guarantee options available to the investor; either the principal investment can be guaranteed or a specified return on investment. Needless to say, the greater the security and risk reduction, the lower the investment return will be.

And, Sands points out, “structured products have become very common in the high-end investment market. You can go to a provider and get something tailored. They [structured products] have grown substantially over the last three years after having been introduced in The Bahamas about five years ago.” Coquoz confirms the growing popularity of structured products, noting that “they have taken off,” and with a minimum capital investment of $10 million, they can be tailor-made for a single investor, he adds. But, Sands cautions investors to read all of the fine print of a structured product agreement, which can vary greatly from one service provider to the next. “If it looks too good to be true, then it probably is,” he says.

Overall, The Bahamas’ wealth management industry is well positioned to achieve sustainable growth, says Bethel. “I think we are at the end of the OECD fallout. Now we’re better positioned to determine the future landscape of financial services.” As a result of the improved disclosure requirements introduced by The Bahamas in response to the OECD demands, the fund industry has been “purified” Bethel believes, which has made investors more comfortable with the regulatory environment.

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