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Getting it right amid jittery global market

Cape Town - With world equity markets being jittery ahead of the first US interest rate increase in nearly a decade, and compounded by uncertainty of growth in the Chinese economy, structured products can provide the investor with a viable alternative to straight long only exposure.

Interest in the South African structured products market has increased dramatically over the last few years with many investors being attracted to their geared nature, and specifically for the South African investor, the ability to access foreign markets.

While returns have been stellar on equity markets over the last five years we have seen structured products shine, given their ability to provide the investor with additional gearing on the upside.

Brian McMillan, who is the head of Investec’s structured products sales, said that “across all our foreign listed structured products that have expired over the last five years we have seen an outperformance of 14.9% against their benchmarks. What’s even more remarkable is that these returns account for dividends that the investor would have having held a matching ETF over the period”.
 
One of the traditional complaints against structured products by some fund managers has been that structured products typically do not pay dividends and instead use these to provide a level of capital protection or even to increase gearing on the upside. This gearing could be looked at as a replacement for dividends as it increases performance if markets do well.

However, perhaps structured products’ greatest asset may soon be called into play. The ability for structured products to provide capital protection against adverse market conditions hasn’t really been tested since 2009 with rising equity markets being the order of the day.

 “With the stronger dollar and the likelihood of increased interest rates in the US driving this, many emerging and commodities driven markets like South Africa, Brazil and Australia have come under pressure,” said McMillan.

The provision of capital protection in many structured products provides the investor with confidence to invest in these markets over the longer term. “There are many types of capital protection and the investor should make sure that they understand not only the types of protection they have but also who is providing that protection.”

One of the areas that have seen growth in the South African market is the use of digital or highly geared payoffs, where for a small gain in the underlying index the investor receives a high return, this combined with a high level of capital protection appeals to the investor who sees a slowing in equity returns compared to the last five years.

One such product is the FTSE100 Multiplier, which provides the investor the ability to earn 10 times the return of the FTSE100 over a 3.75 year period, McMillan said, while the return is capped on the index at 7.5% the gearing of 10 times gives the investor the opportunity to make high returns even if the market has lacklustre returns.

Similarly, should the FTSE100 not perform the investor has a high level of capital protection as the index would need to fall 450% from current levels before their capital is at risk.

* Chad Fichardt is a journalist and media specialist.

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