Bridging the gap

Structured products distribution in the US is changing, as investment banks begin to offer their products to external securities brokers and dealers. Amanda Lee looks at recent developments, including the Merrill Lynch and FIS partnership

Change is in the air for structured products in the US. Investment banks are now offering their products to external securities brokers and dealers, and following the partnership earlier this year between JP Morgan and Fidelity, Merrill Lynch is from this month set to distribute its products via Fixed Income Securities (FIS), a US-based broker-dealer and registered investment adviser.

Such partnerships are unsurprising considering that increasing numbers of retail investors are buying structured products from financial advisers. Under the partnership between FIS and Merrill Lynch's Global Markets and Investment Banking division, FIS will distribute Merrill Lynch's financial products to registered investment advisors (RIAs) and independent broker-dealers (IBDs).

"Wall Street has traditionally closed the door to external RIAs and IBDs," says Randal Pegg, first vice-president of FIS in New York. "If you want to sell Merrill Lynch's products, you have to be a Merrill Lynch broker."

But Pegg says this state of affairs is changing. More and more RIAs and IBDs are adding structured products to their clients' portfolios. "Wall Street is beginning to see the value in reaching out to the growing market of retail structured products," he says. "We see a movement towards open-architecture business models."

Merrill Lynch distributed more than $4 billion of structured products in the US in 2005. "It has established itself as the largest issuer of structured products in the US," Pegg says, adding that products will be distributed to FIS's existing 30,000 registered representatives. "Our target is to attract more RIAs and IBDs with Merrill Lynch's offerings," he says.

Initially, FIS will be focusing on distribution, but under the agreement Merrill Lynch will also provide traditional equity and debt investment securities, such as convertible bonds, preferred stocks and government agency issues.

FIS will begin with more conservative offerings, such as principal-protected products. "We will focus on the main asset classes such as interest rates, credit, equity, commodities, foreign exchange and hybrids," Pegg says. "Other than principal-protected investments, we will also provide leveraged, access and yield-enhancing products."

Bespoke products

What's more, the partnership with Merrill Lynch means that FIS will be able to provide bespoke products. "We can also offer customised products for a level of investment," Pegg says. "High-net-worth investors are looking for quality offerings. Our goal is to empower these representatives to more effectively compete for the high-net-worth client base by providing access to timely offerings from Merrill Lynch."

But Pegg says not all representatives are interested in recommending structured investments. "Many investment advisers view these products as risky and we hope to alleviate this misconception through a vigorous and thorough educational process," he says.

FIS is to provide the relevant training. "We provide the representatives and IBDs with competitive products and, more importantly, focus on educating them about products, investment disciplines and strategies, risk and reward scenarios and investor suitability," he says.

In 2005 alone there was a 16% rise in the number of new issues, with almost $50 billion of structured products launched in the US. So it comes as no surprise that FIS is not the only broker-dealer that has an exclusive partnership with an investment bank.

Fidelity Brokerage Company, part of Fidelity Investments, is to distribute products structured by JP Morgan. JP Morgan will become the primary provider of new issue equity and fixed-income products to Fidelity's brokerage clients, including its retail customers, who hold approximately 10.7 million accounts.

This means JP Morgan's products will be distributed to more than 3,000 registered investment advisers and more than 350 broker-dealer firms with 65,000 individual brokers, through Fidelity's clearing business, National Financial. These products were previously distributed to institutions, hedge funds, and high-net-worth investors through the JP Morgan private bank.

The fact that both Merrill Lynch and JP Morgan have formed partnerships with external distributors means that the US market is finally, as expected, making strides towards achieving open architecture. And investment banks will be competing head-to-head with their proprietary offerings.

Investors will be offered a range of products by different issuers from their financial advisers and broker-dealers. "We will be also distributing products to TD Waterhouse and other large custodians," says Pegg. TD Waterhouse is a US-based registered investment adviser and broker-dealer. It also offers many products provided by Fidelity.

Although Fidelity in the US will be starting to distribute structured products, a London-based spokeswoman at Fidelity International confirmed that the investment manager will not be distributing structured products in Europe and Asia.

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