Insuring your shares against losses caused by mismanagement, fraud and corruption

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It’s scary how often we hear about mismanagement, fraud and corruption within large companies in South Africa. And what’s scarier is how this affects the share prices of the companies and how this can affect our own investment portfolios. The initial allegations don’t necessarily even need to be true for the stock prices to fall and allegations are sometimes enough to cause major havoc.

If you’ve been following my blogs on ETF investments, you’ll see that I’ve opted for index-funds as opposed to individual shares as I’m nervous of picking the wrong one and losing a whole lot of money due to some scandal. But, the option to add Investment Fraud Insurance when purchasing shares on EasyEquities has piqued my interest and I decided that needed to find out more.

Why would one insure your investments, and how does that even work?

I spoke to InvestSure who offer this insurance product and asked them some questions to find out how it all works. Have a look at what they say and visit their site to find out more.

So apparently I can insure my local shares against losses caused by mismanagement, fraud and corruption? Really?

Yes! The idea came about after the VW emissions scandal that wiped over 50% off one of the most valuable companies in the world, blindsiding investors. We realised that fraud is a major risk for investors which is really near impossible to detect or anticipate and that there isn’t a simple and affordable solution for investors who do not want to properly diversify their portfolios which reduces risk but also impacts potential returns (they want to maintain some conviction investments and as such have concentration).

We developed an insurance product that responds to allegations of management fraud, corruption and dishonesty which causes share prices losses.

Purchasing the cover is simple and is done in a few clicks via your trading platform and the claims payouts happen automatically.

Note that this is available for individual company shares and not index products such as ETF’s.

Wow, that sounds interesting, but how much does this cost?

The insurance costs 0.6% (60 basis points) of the value of shares insured and cover is for a year. So that’s 60c for every R100 of shares.

And how do claims work? Do I need to follow the news for scandals?

No, no. The process is automated and there are three triggers that must be met for claims payments.

Once you have cover, if any allegations of fraud surface over the next year; the first trigger would be met (this can happen multiple times over the year).

We then monitor the impact on the share price compared to the closing price the day before the news broke. If at in point the share value drops more than 10% on an intraday basis over the next 2 days following the news the second trigger would then be met.

We communicate to all our qualifying clients informing them of their right to claim and list all claim events on a public website (News Board). Clients are given 30 days to sell their qualifying shares in order to trigger the claims payment (the third trigger).

Claims are calculated and paid immediately (within seconds) when a client sells the insured shares under a claim event and are the difference between 90% of what the shares were worth the day before the news broke and what the shares were actually sold for. Effectively capping the clients exposure to losses due to fraud at 10% of the value of their investment at any point.

It’s important to note that if the share was purchased at R100 and insured, if the share appreciates to R200 before a news event we would pay claims using R200 as the reference price.

We inform our clients of their right to receive a claim and clients may also notify us of any event they think we have missed.

Clients do not have to lodge a claim in the traditional sense; you only have to sell your shares within 30 days of the news event. We receive all the information required via APIs directly from your trading platforms e.g. selling price and number of shares sold. This allows us to automatically calculate the claim value and pay claims back into the clients trading account in seconds without any admin or paperwork from the clients.

How much have you paid out to investors in the form of claims?

Since we launched the product in May 2018 there have been 11 claims event (where all triggers were met) including Tongaat Hulett, MTN and most recently EOH. We’ve saved clients losses of up to 55% to date.

The product is backed by world class insurance capital with Compass Insure being the underwriter and the global giant Hannover Re reinsuring the risk.

We don’t disclose specifics in terms of Rand values.

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Ok I’m in, how do I insure my shares?

There are two ways to purchase cover:

You can buy insurance as you purchase shares on platforms such as EasyEquities. Insurance is made available on the purchase ticket and the client has an option to add insurance to their purchase. All the client has to do is to click on insurance and accept the terms. The cost of the insurance is displayed and added to the transaction cost.

You can also purchase insurance on existing shares you have by clicking on the “Review Insurance” button and choosing to add insurance.

There is no paperwork or questions and cover kicks in from the following day. The period of cover is 12 months and the policy is renewable.

To close, is it really worth insuring my investments?

Definitely.

Anyone following the market would have seen that these types of events are more prevalent than we would like and can have devastating and long term impact on shareholder wealth. Just look at Steinhoff, EOH and Tongaat just too name a few.

We also believe certain trends are driving the increase in the frequency we have seen, namely:

  • The emergence of activist investors or activist short sellers who profit from the drop in share price caused by exposing fraud.
  • Increase in automated/algorithmic trading activity, which can exacerbate the sharp drops following news of fraud.
  • The fast and wide spreading of news via social media and other internet enabled methods including traditional financial media.
  • Access to investigative media spread over the internet.

This is a real risk that is hard for even institutional investors with access to management to pick up, one investment manager gave a great description saying, “fraud comes like a thief in the night.”

The product is attractively priced at 0.6% thereby avoiding significant erosion of returns whilst providing significant downside protection.

Investing in individual shares will always hold a level of risk but having insurance against losses due to allegations of mismanagement, corruption & fraud can really lower the risk.

Please share your thoughts