Structured Products Europe Awards 2016
In a year plagued by macro uncertainties, the UK's decision to exit the European Union and the durability of the Chinese economy not being the least, BNP Paribas has enhanced its reputation as a purveyor of inventive structured trades to institutional clients left cold by the performance of traditional investments.
To cater to the needs of these investors, BNP Paribas has ploughed investment into its risk premia business. Fierce competition for assets among Europe's major houses in this space led the French bank to revamp its internal organisation, and establish a dedicated quantitative investment strategies (QIS) team to centralise the development and oversight of its alternative strategies. Today, this team presides over a large roster of live indexes with cumulative assets under management of $16 billion.
The QIS team's flagship product is the multi-asset diversified global index. This replicates a systematic allocation strategy across different asset classes, accessed using liquid futures contracts. The allocation is determined by a proprietary algorithm that is attuned to both positive (buy) and negative (sell) momentum indicators, constrained by a volatility overlay that caps annualised swings by 4%, 6% or 8%, depending on the investor's risk appetite.
The most popular volatility constrained iteration, 4%, has yielded 4% year-to-date and boasts a Sharpe ratio of above 0.7, even through the turbulence of January, February and June. As of October, the index had €1 billion ($1.07 billion) in assets under management. This year alone saw €750 million of flows, including €100 million from a large corporate pension fund that selected the index from a range of risk premia suitors.
BNP Paribas has gone further than most to assure clients of the integrity of its QIS offerings. The transparency and governance of risk premia indexes has come under scrutiny in the wake of several high-profile enforcement actions in the US and the rollout of benchmark regulation in the European Union. Eager to show its products are designed to the highest standards, BNP commissioned an external auditor to scrutinise its governance policies and index administration. This review was carried out in accordance with the Service Organization Control ISAE 3402 standard.
"The idea is simple: we write down what we are doing and we are doing what we write. The auditor detailed our processes and analysed our internal controls to ensure the business is segregated from other sales and trading businesses. This gives confidence to investors as they have the details on how we manage QIS products," says Jean-Eric Pacini, head of equity derivatives institutional sales for Europe.
Insurance firms anxious about market risk exposure and the associated regulatory capital charges mandated by the European Union's Solvency II regulation have been assiduously courted by major dealers this year. A particular pain point for insurers is the equity solvency capital requirement (SCR), which slaps a 39% capital charge against public equity holdings.
BNP Paribas is leading the way with structured solutions for those wanting to cut down on this requirement. The Theam Quant Equity Europe Income Defensive fund allocates to high-dividend-paying stocks and overlays a short-dated call overwriting strategy, from which the extra income generated is used to purchase put options on the equity portfolio. The put protection dramatically reduces the fund's drawdowns, allowing the insurance investor to reduce the capital charge by a substantial 25-35%, compared with the standard equity SCR.
It isn't the only thing that has made this product attractive to insurers. "The overall cost of carry of the derivative protection over a 10-year back test is positive. The volatility of the fund is also 10% lower, and drawdowns 50% lower, than for the Euro Stoxx," says Renaud Meary, global head of equity derivatives distribution sales at BNP Paribas.
The fund attracted inflows of €500 million between January and April alone. Total assets under management today stand at €1.3 billion.
BNP Paribas has also run a brisk trade in selling so-called skew notes to European insurers. These are structured notes embedding a portfolio of credit derivatives that capture the basis between credit default swap (CDS) index contracts and their constituent single-name contracts. This exposure boosts the offered coupon on the notes above BNP Paribas' unsecured funding rate, depending on how leveraged the basis exposure is.
The bank structured and executed a large skew note transaction for an insurance client in late 2015 and early 2016. The deal was executed in a series of trades and referenced a $3 billion skew portfolio. The insurer benefited from exposure to the basis and an illiquidity premium pickup for holding the notes to maturity. BNP Paribas can offer both unsecured and secured versions of the note by collateralising its own credit risk in the transaction.
Deals such as this underline the bank's exotics structuring savvy. Besides yield-enhancing trades, BNP Paribas has also turned its engineering expertise to crafting a range of capital relief products for institutions struggling to hurdle regulatory ratios.
One jumbo structure saw an Italian bank insure itself against credit losses on a €4 billion portfolio of small business loans. BNP Paribas acted as matchmaker for the bank and a syndicate of investors willing to sell the protection. It then packaged the credit risk in various wrappers, such as credit-linked notes and financial guarantees, to suit the investors' appetite.
"What is great about this technology is the bank remains the lender of record and retains the commercial relationship with the different borrowers - there is only a synthetic risk transfer rather than an actual sale. We've found there is significant market appetite for this sort of risk," says Denis Gardrat, European head of credit structuring.