Fear for zeros from FTSE plunge

THE CITY‘S chief watchdog has declined to predict a new Footsie danger level for the troubled split capital investment trust sector – the home to 'low risk' zeros sold to small investors – since their last one proving so far wrong.

The Financial Services Authority's side-step comes with markets in freefall. The FTSE 100 index has plunged nearly 20% to 4275 in the past two months.

Last October, with the index at around 5200, FSA managing director John Tiner told a Treasury Select Committee a fall in the FTSE 100 below 4,500 points would raise concerns of 'systemic risk'. In other words, the number of split cap failures could be enough to bring the whole sector crashing down like a house of cards.

Facing the same Treasury committee on Thursday, Tiner said there were no longer any 'systemic' dangers.

He later told This is Money that this time he meant a risk of bringing the whole UK financial system to its knees rather than the split cap sector.

'I was asked in October where the systemic risk would be for the sector and I said it was 4,500,' he said. 'Having now analysed the splits in more depth we believe the risk level is lower than that.'

He declined to put an exact figure on the danger level despite months of investigation into the sector.

Split caps are investment companies that offer different types of shares and zeros, which are meant to offer lower returns in exchange for added security. Investment houses attracted around 60,000 investors to zeros, with many buying into these 'safe' investments to pay for school fees or retirement.

Now, thanks to the way these split caps were invested, as many as 20 are on the verge of collapse, threatening the loss of all investors' money.

In an effort to push returns higher managers borrowed heavily. It worked with a rising market, but the 40% plunge in the Footsie in the past two years also amplified losses. To add to the misery, risks were increased by managers investing in other split cap shares, which again magnified losses. The FSA is investigating whether a 'magic circle' of managers colluded to buy each other's shares.

Aberdeen Asset Management, one of the biggest zero providers, was also hauled in front of the Treasury committee. It said the failure of the sector was a result of the falling stock market. Committee member James Plaskitt MP said any such claim from the industry was 'patently untrue'. Click here for more.

Daniel Godfrey, chairman of the Association of Investment Trust Companies, admitted that between 10 and 20 split caps out of 136 will pay back nothing to investors.

A handful of split caps are in the throes of persuading banks not to call in debts. Around £4bn is owed: £2bn to Royal Bank of Scotland and HBOS alone. Britannic Global Income and Media and Income this week joined the growing list of trusts to begin negotiations.

And BC Income & Growth has just announced it is to be liquidated and broken up. Most of its £26m assets will be gobbled up by £24m it owes to RBS. Banks take priority over investors.

The FSA has previously criticised the marketing of zeros, with one investment house saying they had 'more safety features than a Volvo' and another claiming they came to the fore in a falling or flat stock market.

Other big providers of zeros include BFS, Exeter and Friends, Ivory & Sime.

MPs blast Aberdeen over splits