Investments with a Defined Return
Structured products and investments for your portfolio in the UK can also be sensibly termed ‘defined return’ strategies, in that they attempt to provide the investor with a . . . wait for it . . . defined return that in some cases mimics an absolute return. Here examine the idea of a defined return and take a look at two such structured products in more detail: zeros and autocalls.
All structured investments involve taking a view on equities, usually expressed through a benchmark (or reference) index such as the S&P 500 or the FTSE 100. Take a look at the following two possibilities:
You’re bullish: You think that American equities are due to shoot up by a huge amount over the next four to five years. In this case you’re probably looking to leverage your upside to the maximum through something called agrowth or accelerator structure.
You’re bearish: You reckon that the FTSE 100 is due a thorough thrashing, with falls of 10 or even 20 per cent on the cards. In this case you may start looking down the list of products for a bear accelerator; that is, to increase your profits as markets fall back.
Most investors probably sit somewhere in the middle of the above spectrum of opinions and so are wary about betting on any large outcome. Perhaps they think that markets may spend the next few years going nowhere; that is, the S&P 500 benchmark index of big American blue chips is going to be at the same level in five years’ time.
Investors may also be willing to bet that markets are going to be range bound (that is, they’ll tick up (rise slowly in price) in some years and then down in others but always remain in a range of, say, 20 per cent either way of the current level of the index).
This view may also find its way into your demand for income; notably, that you’re not hugely bothered by the direction of this range-bound market, but you’d quite like a decent, above-average income above all else.
These views can be articulated into an investment using different structures. The key with each variant is to understand that a trade-off is likely to come with your defined return. For instance if you want an income above all else, that may mean that you don’t share in any capital upside if the index does suddenly shoot away from you.
Alternatively, if you only want to gear up (leverage) that return in rising markets, you may have to forgo the dividends paid out by the companies that are contained within the benchmark (or reference) index.
This leveraged form of defined return may also come with another risk: if the markets fall unexpectedly you can end up losing all your money. Remember that just because you ‘define your return’ doesn’t mean that the investment comes with no risks!