Private banks in Asia are employing a number of strategies to make money for clients as volatility remains stubbornly low.
With the French elections safely out of the way, market participants are no longer betting on many Black Swan events -- expect for perhaps China’s National Party Congress or the German elections.
‘One of the things you advise clients when volatility is low is to buy options and wait for volatility to rise. But that’s not all that popular because it pays away, so it is cash flow negative,’ Bank of Singapore CIO Johan Jooste told Citywire Asia.
Out-of-the money options allow for directional bets, capitalising on whether the underlying goes up or down.
However, according to industry analysts, private clients in Asia don’t want to pay the premium for options. The attraction of structured notes is higher, where the premium is embedded.
In the global bonds space, high net worth individuals are buying principal-protected notes or partial principal-protected notes.
Some private banks are pricing these notes on funds, buying the call option on funds because fund volatility is typically low.
‘The essence here is to pick an underlying an investor would want to hedge against, for example, such as bond funds, which have interest rate risk for yet provide leveraged participation in the fund itself… if the fund continues to perform well. Then at the end of the tenor, the investor will get return on capital due to the zero coupon bond that we buy. So you buy a call option and a zero coupon on the fund. This is typically the structure we deploy in the private client space,’ Kenneth Yeo, head of investment services and product solutions group, South East Asia at HSBC Private Bank said in an interview.
Additionally, wealthy clients can choose to invest in hedge funds that use certain strategies that are not available to standard investors.
‘They can be very focused on having outright exposure to volatility increases. Usually, their strategies are very liquid and they don’t suffer from three-to-six-month flows that can be futures-or-options based,’ said Jooste.
The price of options has fallen to pre-2008 crisis lows due to low market volatility, allowing hedge funds to place bets that would make them 25 times on their money if the S&P 500 index fell by 7% over the next month, according to the Financial Times.
Another strategy for private wealth clients is to buy the VIX index, a measure of volatility in global markets. This is possible through ETFs and swaps. However, understanding pricing and ETF composition are key as fees – such as index charges or performance fees - could substantially eat into generated returns.
For those who like to keep things simple, buying safe haven assets is the way to go.
While gold has traditionally been seen as a flight to quality, currencies such as the Japanese yen or the Swiss franc are relatively uncorrelated to other asset classes.
‘Another tactic is proxy hedging in stable currency pairs that have high correlation to market distress, such as the Swiss franc. So when there is market dislocation, you suddenly find you can gain without much exposure to downside,’ said Jooste.