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  • You already hold other retail investments like funds, investment trusts or structured products
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  • You are prepared to invest into products where your capital is at risk
  • You have sufficient financial resources to be able to accept a loss on investments you make
  • You understand that the investment return and any coupon that you receive from structured products will depend on the performance of the underlying assets, and so you may not receive any investment return or income
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  • You understand that if the issuer is unable to meet their obligations to pay the amount due when the product matures, that you will not receive the defined value and will loose some or all of the money you have invested
  • You understand that there are charges built into structured products.
  • You understand the personal tax implications associated with investing in structured products

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Please read and agree to the following statements

Structured products are “complex instruments” this means that they will only be appropriate for you if you have sufficient knowledge and experience. In order to access the site you need to be able to agree to all of the following statements

  • I already hold other retail investments like funds, investment trusts or structured products
  • I consider myself to be a knowledgeable and informed investor
  • I understand the way that the investment return, the maturity value and any income are calculated by reference to the performance of underlying assets
  • I realize that I am not investing in the underlying assets but instead into a products whose performance is linked to these assets
  • I am prepared to invest into products where my capital is at risk
  • I have sufficient financial resources to be able to accept a loss on investments I make
  • I understand that the investment return and any coupon that I receive from structured products will depend on the performance of the underlying assets, and so I may not receive any investment return or income
  • The return of the capital may also be linked to the performance of the underlying assets.
  • I understand how this is calculated, and appreciate that the amount that you receive back when a product matures may be less than I paid for it
  • The defined value of each product will only be realised if the product is held to the maturity date. I understand that if I sell a product before the maturity date I will not get the defined value, and the amount that I receive may be less than the amount that I invested.
  • I understand that if the issuer is unable to meet their obligations to pay the amount due when the product matures, that I will not receive the defined value and will lose some or all of the money I have invested
  • I understand that there are charges built into structured products.
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Research & Analysis

Three reasons you should be looking at structured products nowMay 04, 2016 - 09:15

Investors that have used structured products linked to the main equity market indices have every right to feel pretty happy with themselves. Their structured product investments will probably have delivered a higher return than equities or bonds with less volatility (see the table below).  This performance is not just a flash in the pan but instead exactly what was expected. Our analysis suggests structured products will continue to deliver good returns with low volatility. We propose that investors should increase their exposure to structured products and decrease their exposure to equities and bonds. A diversified portfolio of structured products like the new Managed Portfolios we have developed with James Brearley offers an easy and efficient way to benefit from the superior risk / return that these products offer. 

Structured products have always had a “does-what-it says-on-the-tin” appeal and this is an important part of why investors use them. However, in the current market investors want more than an accurate description of how the product works. Investors need to know if products are suitable and appropriate. They want to know about what return they can expect to receive and the risks that they face. They want to know how the risk and return compares with other investments. We have been analysing structured products for more than four years. The techniques that we have developed are very similar to the new regulatory standard published by the European Union. The good news here is that our analysis shows that good returns with low volatility that these products have delivered is entirely consistent with the risk and returns that these products are expected to generate in the future using our stress test. 

We see three strong reasons why investors should be considering structured products now:

  • Strong past performance demonstrates that these products have delivered good returns in testing market conditions.
  • Structured products can be designed to offer good returns when markets track sideways.
  • Our analysis shows that these products can be expected to offer a better risk/return than conventional portfolios.

PAST PERFORMANCE

Our first reason is to look at structured products is that they have delivered a great return. We all know that past performance is no guide to the future, but equally it is always comforting to see how a product has performed in the past. 

The good past performance of structured products is irrefutable. This must be a bit galling for those investors that have not used these products in the past. We calculate an index of FTSE Kick-Out product performance. The index is simple, each day the change in the index is equal to the average change in the value of each product in the index. There are 78 products in the index at the moment. We include every FTSE linked Autocall that we can find where the price is published every day. The table below shows how the performance of the index compares with the returns from the FTSE iShare. 

DESIGNED TO OFFER POSITIVE CARRY IN A DIFFICULT MARKET

It’s hard to see what assets are going to offer an attractive return in the future. With rates at current levels the return from equities and bonds many analysists and investors are revising down their expectations of future returns. Asset managers will not be able to rely on the tide of rising process to to generate returns. 

Our second reason to invest in structured products now is that structured products are one of the assets that offer the prospects of good returns if markets drift sideways. For many products all that is required for a positive return is that the index level remains unchanged. For some defensive products the maximum return will be offered even if markets fall over time. Structured products are designed to generate positive returns in sideways trending markets.

There is an opportunity cost of investing in structured products; the return is generally capped. If we assume that reasonably conservative portfolio of structured products offer a headline return of about 8% per annum, how significant is the opportunity cost? For equities to offer 8% per annum over the next 6 years (this is about a 60% return over the period) the level of the FTSE would have to increase by about 30% with the remainder coming from dividends. So with the FTSE at about 6,200 now this would mean that structured products may underperform if the index level increased to more than 8000 by 2022. This is not impossible, but it seems to be a stretch.  

On the downside the maturity value of most products striking now will only be less than 100% if the level of the FTSE is below 3700 or thereabouts when the product matures (assuming that it has not kicked out before then). While this is not improbable, if investors think that a 40% decline in the level of the main equity markets over the next few years is a significant risk, then they should be very wary about any equity based investment. 

IMPROVED RISK / RETURN

The FCA has for a long time required structured product manufacturers to stress test products. The European Union has gone a step further and prescribed a way that this should be done. They require promoters to calculate the returns that investors may get, and the risks that they face. 

Our third reason to buy structured products now is that the stress testing process mandated by the regulator show that many structured products offers a better risk/return than portfolios of conventional assets. 

This stress test means that we can compare structured products with each other. We can also compare structured products with other investments. The chart below shows the risk and return of over 200 products trading in the secondary market.

Each product is represented by two markers:

  • The blue marker is the risk and return of that product from the stress test
  • The orange marker is the mix of 5-Year Gilts and FTSE tracker that has the same volatility. The orange marker includes an adjustment for the issuer risk.

The orange markers act as a benchmark return. For products where the blue marker is above the orange marker the product offers a better return for the same risk as a combination of FTSE and Gilts. 

It is clear from this chart that many (but not) products offer a mix of risk and return that is very attractive. One particularly striking feature of this analysis tis that Structured products offer balanced investors (less than 15% volatility) and cautious investors (less than 10% volatility) the prospects of much better returns than equities and gilts. 

CONCLUSIONS

The investment case for structured products is very sound.

  • Our index of product performance shows that they have offered good returns in the past.
  • Our stress test shows that they can offer attractive returns in the future.
  • Many structured products are designed to offer the prospect of good returns even if markets drift sideways. 

Our conclusion is that structured products should be a part of every investors portfolio. They are particularly attractive for investors who think that returns from conventional portfolios will be low over the medium term. We would advocate using structured products to replace equity assets. This switch reduces risk, maintains the potential for return, and increases the chance of receiving the return.

As with all investments there are some simple rules for success:

  • Diversification is vital, investors need a spread of issuers, underlying assets and strike dates.
  • It is important to understand the risk and return of each product.

We also know that unless a product is easy to use, it will be ignored. Individual structured products can be labour intensive for investors and advisers. The Managed Portfolios that we have developed with James Brearley offer investors an easy, efficient and attractive ay to get exposure to an expertly managed portfolio of structured products.   Click here for more details.


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David Stuff
  • Author

    David Stuff

David has been involved in equity derivatives, equity structuring and the structured product market for over 25 years. Before setting up CUBE in 2013 David worked at J.P. Morgan, Barclays and RBS. David has worked with and for retail product providers, discretionary managers and institutional investors.