Navigating the World of Structured Products with Arta

Have you heard of Structured Products?

Structured products are unique investments that can be customized to fit what you're looking for when “off the shelf” just won’t do. And because they’re customized, they can be tailored to a range of investment objectives, from generating income to managing risks.

Structured products account for an impressive $3 trillion in global assets.* Yet at Arta, we realize that not everyone knows what these products are all about, how they fit into an overall investment plan, or if they're the right choice to meet a goal.

We're here to break down the complex stuff and make it easy to understand. Whether you're deep into investing or just getting started, we want to help you see where structured products might fit into your bigger picture.

What are structured products?

Structured products are customized combinations of various financial assets designed to achieve specific outcomes. The underlying assets might be corporate bonds, options, or equities—essentially, whatever mix is optimal for a particular goal. 

All structured products start with a goal. It could be an investment outcome, like generating steady income, or an investment thesis—for example, the investor has a strong view that the market will behave in a certain way in the future. Based on the goal, Arta will develop the strategy (e.g., selecting the underlying assets and how they should be structured) and then work with third-party bank partners to execute the strategy. 

With structured products, we're not just aiming for a goal with crossed fingers. Instead, everything's laid out in black and white: if certain things happen (let's call them ABC), then the result (or XYZ) is a sure thing. It's like setting up a deal where both sides know exactly what to expect based on the rules we agree on from the start.

How Arta does it differently

Private banks typically offer a large menu of structured products, generally with pre-set terms. These products are often sold on commission, which can lead to high fees and potential conflicts of interest. 

At Arta, we're taking a different approach. Our highly experienced derivatives team, who honed their skills on structuring desks at the big banks, create products tailored to current market conditions and specific member goals. Once we decide on the product structure, we go to all the big banks – over a dozen of them – and run an auction, having them bid against each other for the best terms. We then take the winning deal to our investors and charge a competitive flat rate, with no hidden fees.

Arta creates and offers structured products in a limited window to reflect market conditions and fleeting opportunities. We will offer many products over time, but any single structured product is custom-built to match the moment for which it was designed.

Because a third-party bank is involved in execution, credit risk is associated with these products. To mitigate that, Arta works only with major, investment-grade issuing banks – for example, UBS and JP Morgan Chase.

Types of structured products

The variety of forms that structured products can take is virtually boundless, mirroring the vast spectrum of investors' objectives. However, there are fundamental elements that form the backbone of most products:

• Duration: Typically range from 3 months to 5 years

• Underlying asset: The structured product is usually linked to the performance of an underlying asset or assets, such as the S&P 500 Index or Tencent. However, given the customizability of structured products, the underlying asset can be almost any publicly traded security. 

• Downside protection: Some products are structured to return your full principal at maturity. Others might have some “buffer” or “trigger”. For example, if the underlying asset decreases by less than 10%, the investor experiences no downside. If it’s down more than 10%, the investor begins to experience the loss.  

• Upside potential: Some structured products have multipliers on increases in the underlying assets. Much like the downside configuration, the upside may have some kind of buffer or trigger built in. For example, earn twice the return on S&P 500 gains, but only if the S&P 500 increases more than 10%. Generally, the greater the desired upside, the higher the exposure to downside risk.

• Income: Some structured products generate income, also known as “coupons”. Sometimes these coupons are “contingent,” meaning they are only earned if certain market conditions are met. By intelligently designing these contingencies, Arta’s derivatives team can assist in creating a structure with the potential to significantly surpass the fixed-income yields typically found in comparable bank accounts or corporate bonds.

• Callability: Structured products may either have a fixed maturity term or a variable maturity term, dependent on whether an event occurs. For example, if an underlying asset, such as Samsung, increases in the next 3 months and the structure is “callable”, the investment will be closed out with specific outcomes. Conversely, if Samsung decreases in the next 3 months, the investment will continue to its full duration. Callability can help tailor the overall return profile to better leverage the complexities of financial markets.

As you can imagine from the breadth of these dimensions, there are numerous settings and adjustments at our disposal. So, the structured product will ultimately involve trade-offs between these dimensions. For example, there may be a high degree of protection on the downside, but the trade-off might be limited upside. 

Risks and other considerations

While all investors have goals, structured products aren’t for everyone. Some key considerations should be considered.

• Limited liquidity: Many structured products have a holding requirement, such as one year. While it may be possible to withdraw your funds before the term is over, liquidity is not guaranteed, and you could lose principal, depending on market circumstances.

• Tax implications: If you reside in or are subject to a jurisdiction outside of Singapore with taxes on investment income or capital gains, structured product returns and distributions may be taxable. Structured products can have complex tax requirements, and we recommend speaking with your tax advisor to understand potential tax-related implications. 

• Principal risk: If a structured product is not structured to return your principal at maturity, this means you have “principal at risk”, as you do investing directly in the stock market. Products with partial loss protection typically include downside protection in the form of a buffer, geared buffer, knock-in barrier, and more.

  • Buffer: With an x% buffer, your first x% of loss is covered, and the remaining loss is at a rate of 1:1, down to (100% - x%) maximum loss.

  • Geared Buffer: With a geared x% buffer, your first x% of loss is covered, and the remaining loss is at a rate of (1 / (100% - x%)), down to 100% maximum loss.

  • Barrier: With a barrier, your loss is covered above the barrier, and “knocks in” to full 1:1 downside risk below the barrier.

• Performance is dependent on underlying assets: Because structured products are constructed by combining one or more underlying assets, their observed performance will ultimately depend on those assets. In addition, investors in structured products will not receive dividends typically available to investors in the underlying asset(s). 

• Credit risk: When structured products are constructed using corporate bonds, your principal is typically subject to the bond issuer's credit risk To manage credit risk, we only collaborate with major, investment-grade issuing banks. Historically, investment-grade bonds carry more risk than government bonds but less risk than investing in the stock market.

• Defined payoff terms observed on contractual schedule: The payoff of the structured product is only realized on the dates that are outlined in the legal offering document. Before the contractual maturity, the product value can fluctuate due to underlying factors including the underlying assets (price, along with volatility, correlation, corporate actions, and more), interest rates, and credit spreads.

• Call Risk: Some structured products may terminate early if the note is “callable”. When this occurs, there’s no guarantee you can reinvest the proceeds into a new structure with the same terms.

• Additional Product-Specific Risks: Each structure is unique and carries its own benefits and risks. We always encourage you to thoroughly read any term sheets prepared by the issuing bank and come to us with questions about specific risks or terms you see in the documents.

Who are structured products for

Investors in structured products are usually trying to address a specific issue. They may be seeking an income stream that offers higher potential returns than what a standard savings account or traditional investment-grade bonds can provide. They might need to manage risk in a way that they’re unable to with “off-the-shelf” securities. They may have an investment thesis that publicly available securities just don't efficiently capture. For example, an investor may be highly optimistic about a certain group of companies but also seek to protect against a catastrophic downside scenario for those firms.

These investors share a common challenge: they haven't found an existing solution that meets their needs. Generally, they are more financially savvy than the average investor and are prepared to commit their funds to the lifespan of the structured product.

Head over to the app to learn more about Arta’s structured products. Arta offers free consultations for interested members. We can help you determine if these products might be right for you and guide you through the process once you're ready.

Disclosures

See important disclosures here.

Source

*Envestnet, June 2023. https://www.envestnet.com/financial-advisors/deeper-understanding-structured-notes