Banks seeking ways to boost the yields of their structured product inventories often focus on making small tweaks to the payouts; an additional knock-out barrier here, an early redemption feature there, for example. Credit Suisse attempted something more fundamental this year.
Leveraging the expertise of several departments and its proprietary models, the Swiss bank launched a fundamentally revamped version of its flagship Sprint stock-picking methodology. It has already proved to be a massive commercial success for the bank. Over $1billion in notional of Sprint 2.0-linked products have been sold in the first half of 2018 alone.
Credit Suisse’s Holt platform has been used extensively by asset owners to identify and gain exposure to value stocks via its market-leading stocks database, the Holt Lens portal, and value and equity premia-based indexes. The Swiss bank has now extended the scope of its Holt platform through its Sprint 2.0 programme, a stock-filtering methodology.
“A client will come to us and ask which stock to select, and Sprint 2.0 perfectly fills the gap,” says a sales head at a private bank in Singapore. “Nobody else out there has this, and our clients love it because it does all the selection for them.”
Choosing the right stocks is a common difficulty faced by private banks when building equity-linked structured products for clients. Equity research can take them some of the way, but the traditional ‘buy-hold-sell’ paradigm of analyst ratings falls short as a tool for picking the right securities for an accumulator or an equity-linked note.
A buy recommendation might mean the underlying stock will outperform the structured note, in which case, a client would be better off buying the stock outright. Hold recommendations, on the other hand, mean there could be a certain amount of movement in either direction, leaving the investor with some doubt about the suitability of the security for inclusion.
Credit Suisse says Sprint solves the selection problem for clients by feeding the stock universe through three filters that improve the quality of the selection. Stocks are first picked on the basis of fundamental and technical factors identified using the bank’s equity research. The surviving stocks – those with a neutral or positive view – are then filtered through the proprietary Holt model to assess value and momentum performance metrics and default probability. A final filter conducts a volatility analysis, identifying which stocks have a reasonable level of implied volatility to ensure a product will fulfill its purpose as a yield enhancer. The results of the exercise are published twice a month.
“Once that has been done, you end up with 30 or 40 stocks. The relationship manager can then call the client and say ‘this is the universe,’ and propose these options to their clients,” says Fayez El Hicheri, vice-president of equity derivatives structuring and head of Asia-Pacific investment solutions structuring at Credit Suisse in Hong Kong.
“What we have put together is a way of selecting stocks through a process that is triangulating what we have on our equity sales team, equity research team, Holt team and [our] volatility capabilities,” says Hicheri. “All the products we use this for are fairly vanilla. We are taking those flow products, and trying to rejuvenate them and add value for the client in the process.”
Beyond its endeavor to enhance flow products, Credit Suisse has also shown itself more than capable of delivering highly structured and finely tailored hedging solutions to clients.
One of the poster trades executed by the bank during the past 12 months helped insulate a bank client from the equity markets sell-off in February. The strategy delivered a 9.55% return on February 5, the same day the S&P 500 crashed by 4.1% and the CBOE Volatility Index jumped 20 points.
The client took a view in early 2017 that global equity markets were peaking following the post-US election surge, and wanted to hedge its exposure to a possible downturn. Credit Suisse proposed a transaction linked to a risk premia index designed to react to different market cycles. The index consisted of three asset buckets, which, when put together, provided a hedge for the client’s exposure while offsetting the risk of negative carry resulting from the mark-to-market payments required over the lifetime of the trade.
“There were some investors who at the beginning of last year were thinking the equity market was looking toppish,” says Stephane Goursat, Credit Suisse’s Asia-Pacific head of quantitative investment strategies in Hong Kong. “But if you are investing into an equity tail hedge, it is going to be quite expensive. Our idea was to put some buckets together.”
The first bucket provided the tail hedge through exposure to credit default swaps and the Vix index. To compensate for the insurance premiums of the tail hedge, a second bucket created cross-asset risk premia exposure using a mix of fixed-income assets and commodities. Then, in order to offer some return while the markets continued to trend positively, a third bucket was introduced to provide long exposure to equity and credit indexes.
“Come February, the S&P crashed by more than 4%, and everyone was surprised,” says Goursat. “But this strategy was making roughly 10%.”