Read on Twitter
1/ long structured notes thread.
Pls stay with me in the initial part.
How many times have you bought a structured note: dual currency, equity linked, credit linked, reverse convertible, auto callable, capital protected, etc?
Pls stay with me in the initial part.
How many times have you bought a structured note: dual currency, equity linked, credit linked, reverse convertible, auto callable, capital protected, etc?
2/ And do you know how they are priced?
3/ A structured note is a product that packages synthetic investment instruments.
As many things in finance they are not inherently bad but can be grossly misused and lead to large losses.
As many things in finance they are not inherently bad but can be grossly misused and lead to large losses.
4/ Structured products usually consist of a note and a derivative, a financial instrument which derives its economic value by reference to the price of another asset, typically a bond, commodity, currency or equity.
5/ That derivative is often an option (a put or a call).
And that derivative is usually sold so that the note pays an interest at a set rate and schedule, but the derivative has risks and it's value at maturity can be very large
And that derivative is usually sold so that the note pays an interest at a set rate and schedule, but the derivative has risks and it's value at maturity can be very large
6/ since 2008 the search for yield created a huge surge in the demand for solutions that can deliver it. But these notes also package significant risk that often the investors are not capable of understanding
7/ most of their success is really due to the large commissions that are embedded in it and paid to unscrupulous or incompetent (or often both) sales people
8/ Petra Vokata wrote a comprehensive study on yield enhancing produca (YEP) available here
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3223427
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3223427
9/ findings:
- Investors pay 7 percent in annual fees and subsequently lose 7 percent per year relative to risk-adjusted benchmark returns
- The average realized returns over the decade are negative, and the losses are not restricted to the financial crisis of 2007-08
- Investors pay 7 percent in annual fees and subsequently lose 7 percent per year relative to risk-adjusted benchmark returns
- The average realized returns over the decade are negative, and the losses are not restricted to the financial crisis of 2007-08
10/ - The bottom third of the products with the shortest maturity earn negative average returns in eight of the 10 sample years
- YEP fees are large enough, and the product betas low enough, that even the expected returns of YEPs are negative
- YEP fees are large enough, and the product betas low enough, that even the expected returns of YEPs are negative
11/ - In some cases, embedded fees were well into double digits
- YEP fees are several times larger than fees charged by a typical mutual fund and about twice as large as fees charged by hedge funds, private equity funds and venture capital funds
- YEP fees are several times larger than fees charged by a typical mutual fund and about twice as large as fees charged by hedge funds, private equity funds and venture capital funds
12/ - The underlying securities are typically highly volatile stocks, with high idiosyncratic volatility, selected systematically to support high headline rates and moderate downside protection. Their average beta is over 1.5—a value common for the top beta decile of U.S. stocks
13/ - Investors in YEPs lost money on average. The volume-weighted average return is −4.6 percent over the holding period, or −0.7 percent monthly. More than a quarter of the products paid back less than the invested capital
14/ - The vast majority of the products are not listed on an exchange, are traded only over the counter, and are highly illiquid. In most cases, the only buyer of the notes before maturity is the issuing bank
15/ - The notes constitute a senior unsecured debt of the issuer and are therefore subject to its credit risk
- Their tax treatment is complex, often uncertain, and the products do not appear to offer any tax benefits
- Their tax treatment is complex, often uncertain, and the products do not appear to offer any tax benefits
16/ also she found that
“Conflicted payments—kickbacks and commissions to the brokers recommending the products—account for nearly half of all YEP fees.”
“Conflicted payments—kickbacks and commissions to the brokers recommending the products—account for nearly half of all YEP fees.”
17/ And she concludes
“The most plausible interpretation of my results is that banks issue YEPs to cater to yield-seeking investors who do not understand their high fees and poor performance.”
“The most plausible interpretation of my results is that banks issue YEPs to cater to yield-seeking investors who do not understand their high fees and poor performance.”
18/ also interesting
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2350285
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1101796
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1342360
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2350285
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1101796
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1342360
19/ another important problem is that issuers have to hedge their exposure and remain as central counterparts in the equation creating long chains of credit risk
This in turns creates too big to fail institutions and systemic risk
This in turns creates too big to fail institutions and systemic risk
20/ So this industry is:
- opaque
- high fees
- large conflict of interests
- systemically risky
- high barrier to entry
Which makes it a great industry to be DeFied!
- opaque
- high fees
- large conflict of interests
- systemically risky
- high barrier to entry
Which makes it a great industry to be DeFied!
21/ the good guys at @dextfprotocol have a solution to this problem:
- with their platform anyone can create digital-native structured product which they call structured tokens
- beeing #DeFi native it's fully transparent and democratic
- fees are clear and easily visible
- with their platform anyone can create digital-native structured product which they call structured tokens
- beeing #DeFi native it's fully transparent and democratic
- fees are clear and easily visible
22/ - the structured tokens package the hedge in the note thus removing the systemic risk of the issuer
They published an article on them https://link.medium.com/HNkaJeIdIcb
They published an article on them https://link.medium.com/HNkaJeIdIcb
23/ and a twitter thread to update the article https://twitter.com/dextfprotocol/status/1341320007859331072
24/ anyone is aware of other protocols doing the same?
@krugermacro
@codingalex
@QwQiao
@redphonecrypto
@bantg
@twobitidiot
@RyanSAdams
@Fiskantes
@DegenSpartan
@scott_lew_is
@AriDavidPaul
@cburniske
@krugermacro
@codingalex
@QwQiao
@redphonecrypto
@bantg
@twobitidiot
@RyanSAdams
@Fiskantes
@DegenSpartan
@scott_lew_is
@AriDavidPaul
@cburniske
