Since establishing its fund-linked derivatives business in 2000, Barclays Capital has carved out a dominant position in the specialist area of creating bespoke structured products linked to hedge fund returns. The fund-linked derivatives arm initially focused on creating structured products linked to traditional mutual funds, but in line with increasing investor demand for alternative exposures, it quickly became active in diversified funds-of-hedge funds. Today, Barclays Capital arguably supports one of the largest selections of underlying funds in the market, across the spectrum of traditional and alternative asset classes.
"Barclays Capital is one of the most innovative counterparties I have worked with in recent years," says Richard Tomlinson, London-based head of multi-strategy products at Old Mutual Asset Management, adding that he believes the bank has built a strong fund-linked business by combining thought leadership with the ability to understand and execute innovative trades. "A large part of this is built on the quality of the people within Barclays Capital, and also, as a customer, being able to interact directly with the key decision-makers in the bank, and not being faced with excess bureaucracy."
Giles Rothwell, the bank's London-based global head of Investor Solutions, says from the early days of starting its fund-linked business, the bank knew it would be one of the most difficult areas in which to establish a presence. "A number of people started off doing fund derivatives then had to stop because they just didn't have the capability to grow the business properly. We spent a lot of time in the early days making sure we had the infrastructure in place to do the administration that's required on a fund derivatives business," he says, adding that the funds business is directly integrated into the sales team.
That focus on the client shows in some of the transactions that BarCap has done. For example, earlier this year it produced an enhanced cash product linked to four fund-of-hedge funds for a large European corporate client, which had generated a large cash position that it intended to maintain as a reserve in the medium term. "They had a lot of cash and they wanted an alternative investment, but they might also have needed to utilise the cash at short notice, perhaps for mergers," says Richard Ho, the bank's London-based head of fund derivatives. So the company was looking for an enhanced yield over the Euribor rate via alternative exposures, but it was constrained by conservative risk guidelines on all its investments, which meant it required at least partial principal protection. But with traditional guaranteed products, principal protection only kicks in at maturity.
The solution was to provide partial, or soft, principal protection, on a product linked to a basket of four fund-of-hedge funds. The partial principal protection came from BarCap's proprietary Prosper (Perpetual Rolling Open Structure Protecting Equity Returns) capital protection system, a variation of constant proportion portfolio insurance (CPPI) that utilises a lock-in mechanism for gains made on the risky component.
BarCap put together EUR100 million of the note, which aims to achieve Euribor plus 2% to 3% yield for the client. This transaction is symptomatic of the emerging trend in tailored structured products of targeting alpha returns. As we see the effective institutionalisation of alternative investments, the role of fund-linked teams in singling out alpha and wrapping it in a structured product is likely to become more important. "Going forward, we know that the demand for alpha is going to change from absolute return to relative return, which will largely be a function of institutional investors changing their objectives to manage funding gaps and liability streams, and also because of ageing populations. We're trying to make available as rich a set of alpha alternatives as possible," Ho says.
As portable alpha moves into the mainstream, BarCap's alternative fund-linked business looks set to go from strength to strength.
WHY BARCLAYS CAPITAL WON
Barclays Capital has steadily increased its presence in the market for structured products linked to exposures that are uncorrelated with traditional asset classes, and has shown particular innovation and expertise in putting together products linked to fund-of-hedge funds. Its client base is expanding on the back of a growing reputation for well-formulated hedge fund-linked exposures.
The week on Risk.net, December 2–8, 2017Receive this by email