Investing in a low return marketNovember 07, 2016 - 15:40
It can be
difficult to know what to invest in when the returns from equities and bonds
are expected to be low. Structured products are one type of investment that can
generate a good return when markets move sideways. In this note we look at one of the notes held in the Managed Portfolio. Our
analysis suggests that there is a 90% chance of a return of about 8% and less
than a 2% chance of a large loss. This is why we think that this note is an
The note is
a classic FTSE Autocall. It was struck on the 26th Feb 2016 when the
level of the index was 6096. Significantly below the current index level. At
the close of the 4th November the note was trading at 107.9 /108.9.
has the potential to mature each year from the 2nd anniversary if
the FTSE closes above the initial index level. If the note matures early the
payoff is 100% plus 10% for each year to the maturity date. So the 1st
early maturity date is the 26th February 2018. If the note matures
then the maturity value will be 120%. This would represent a 7.7% return per
annum for an investor that bought the note today.
If the note
does not mature early, then at the end of the term there are three things that
the FTSE is above 6906 the maturity value is 160%, this will be a 7.5% per
the FTSE is above 4143 but below 6906, the note matures at 100%. Given the
current price this would be a loss of 1.6% per annum
the FTSE is below 4143the maturity value will be reduced in proportion to the
fall in the index from the initial level. So if the final index level is 4000,
this would be a 42% fall, so the maturity value would be 57.9%
are also exposed to the risk that the issuer (UBS in this case) defaults. The
table below summarises what can happen.
summary here is that if the index remains at current levels or falls by less
than 9% the Note will mature and offer a positive return of between 7.5% and 8%
depending on when it matures. There is a chance of a small loss if the note
matures at 100%, and a chance of a large loss if the FTSE falls a lot.
test allows us to ascribe some probabilities to each event, and so work out
what the overall risk and return is. We see the following
is a 75% chance that the note matures in Feb 2018 in which case the return is
7.7% per annum
is a 91.5% chance that the note matures at some stage, in which case the
average return is 7.9% per annum
is a 6.6% chance of maturity at 100%, this is a loss of 1.6% per annum
is a 1.9% chance of the market falling by more than 45.4% triggering a large
loss. In this case we see the average payoff as 50.8%, a loss of 13.4% per
what this means is that
average return is 5.3% per annum
volatility of returns is 7.1%
is just a 1.9% chance of a large loss, and in these cases the loss is less than
the capital loss from a tracker fund.
this return profile and so have this product in the managed portfolio for a
number of reasons
note generates a good positive return across a wide range of market scenarios,
including circumstances where the level of the index falls.
don’t see a large opportunity cost. We think that there is only a low chance
that the returns from the market will be much more than the returns offered by
note offers significant protection against a large loss.
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.