The alchemy of ‘structured products’

Engineered amalgam of bonds and derivatives can help protect principal

Remember when the world of finance was a peaceful place with clear lines separating institutional and individual investors? Individual investors diversified portfolios by allocating weights to the three major asset classes: cash; bonds; and stocks. Institutional investors accessed additional levels of diversification, including passive and active equity strategies, geographic dispersion, private equity, real estate, commodities, and hedge funds. How times have changed!

Today, through financial engineering, individual investors can access products that, while sometimes complex, put them on an equal footing with their institutional brethren. One notable innovation is an investment class broadly referred to as structured products.

Structured products are pre-packaged investments that normally include assets linked to bonds plus one or more derivatives. They are generally tied to an index or basket of securities and are designed to facilitate highly customized risk-return objectives. This is accomplished by taking a traditional security such as a conventional investment-grade bond and combining that with derivative securities on one or more underlying assets. This fixed income plus derivative structure tempers the potential payoff but protects the principal investment. Read More