Volatility helps German structured products providers offer attractive returns

July 7, 2010

The problems in the eurozone are unleashing volatility across the continent’s indexes, thereby making it easier for bankers in Germany to offer good coupons on autocallables.

Retail investors in Germany are expressing interest in autocallable products as current high equity volatility levels make it possible to provide attractive returns, according to German bank West LB.

The correlation between the Dax and the Eurostoxx 50 means that the problems in the so-called Pigs countries (Portugal, Italy, Greece and Spain) are having an effect on other eurozone countries’ indexes.

The same thing can be seen in the Dax as one sees in the Eurostoxx 50 and S&P 500. The Dax Volatility Index is currently at 26%, which is quite high historically. Obviously, if you sell an option you profit from high volatilities.

Specialists claim that the interest in autocallables has been steady over the past year, although equity structures are not generally in favour. In general people are quite risk averse, but there are always some who find these types of structures very interesting.

Some of West LB’s product ideas include autocalls on the Eurostoxx 50, the German Dax index and single stocks – a growing trend in Germany.
One example of the type of product the bank can structure is a one-and-a-half-year product on the Eurostoxx 50, paying 6% per annum unless the product reaches its target of above 100% of the strike, in which case it will kick out early and pay capital plus 6%. It has a 75% barrier, below which capital is not protected.

Although investors in Germany generally prefer longer terms of five or six years, investors like the high returns on offer.
Experts for structured retail products at UniCredit/HypoVereinsbank in Münich, agree that current volatility is making good coupons possible, but this extends across all product types. However, in falling markets the products do reach their target level and investors are stuck with them. According to the experts, increasing volatility leads to lower prices for existing products in the secondary market.

To counter this scenario, UniCredit has been issuing reverse convertibles with a barrier and an autocall feature added in. They claim they have been very strong in recent months on barrier reverse convertibles on single stocks, as well as combining a trigger feature. The structure combines the possibility of a short period of investment and a product line which investors are familiar with, and is a relatively simple add-on to explain.

One such product is the HVB Express Barrier Reverse Convertible on BASF SE, with potential for early redemption at the end of the first, second and third years if the underlying stock is equal to or above its initial value. A 5% coupon is paid regardless. If the product does not kick out early and it falls below 60% of its initial value at the end of the third year, investors will receive the equivalent of the initial value in stocks.