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The role of structured products in re-entering markets

Picking the right moment to re-enter equity markets is never easy, especially now when markets are so volatile. Call it too early, and you risk making losses. However, call it too late, and the opportunity is missed.

Financial advisers face some tough challenges in getting this right: even if signals are telling us that now is the time to buy, how do you advise cautious investors, who may have seen significant losses, to take the plunge?

Since dipping below the 3,600 mark in February this year, the FTSE 100 Index has regained some of its losses, breaking back above the 4,200 level at the end of April. Is the recent turnaround in performance the beginning of a long-term recovery? Or is it just a false start?

There are many different signals that investors can look to as a guide to market timing: research recommendations, valuation factors such as book-to-market ratios and even macroeconomic fundamentals such as house prices. However, they can be contradictory and, especially in recent months, it’s often been the case that some of the most widely used signals haven’t worked.

Of course, advisers are well qualified to decipher these signals and form their own view on when to re-enter markets, but what if clients are particularly wary? Instead of waiting for the ‘perfect’ entry point, what if there was an alternative that could generate strong returns without a strong reliance on market timing? This is where structured products can really come to the fore.

Unlike traditional long-only investments, structured products can be tailored to a specific view, even if that view is uncertain, or not very well defined. A good example of this is the defensive ‘kick out’ or ‘autocallable’ structure. For investors with a non-specific view, such as ‘I expect markets to recover at some point over the next five years, but I’m not sure exactly when, or by how much’, this structure offers the opportunity for decent returns. In fact, these returns can look particularly attractive given today’s highly volatile environment, as investors are effectively selling volatility in this structure, in exchange for the opportunity for fixed returns.

Another idea that could appeal to cautiously optimistic investors is the ‘best entry’ structure. The underlying market level is measured over a series of observation dates at the start of the investment term, and the lowest recorded level is used as the starting point for performance. This structure is typically more expensive than the vanilla equivalent, as investors pay for the benefit of hindsight when it comes to picking the optimum entry point. Nevertheless, for those who are cautious about timing their entry to the market, this feature might be worth the extra premium paid.

These are just a few examples and there is a huge choice in the structured product market to suit a range of investors’ views. Although advisers and their clients need to familiarise themselves with the risks associated with these types of investments, they should also be recognising the potential these products have in uncertain markets.

The views expressed in this article are those of its author and do not necessarily represent those of the company he represents.

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