Market view: Saying goodbye to the status quo

Seismic shifts are unsettling Italy's structured products market. As issuers and regulators alike struggle to adapt to new legislation, and the dominance of traditional wrappers comes under threat from certificates, Robert Benson says the market could look very different in 12 months' time

Changes are clearly under way in Italy's retail banking industry, with both domestic mergers and foreign takeovers now taking place at an increasing pace. At the same time, the local retail structured products market is undergoing a significant period of adjustment, and the associated uncertainty is leaving many local players guessing as to what the lasting impact of these changes will be.

Delays in Italian financial market regulator Commissione Nazionale per le Societa e la Borsa's (Consob) authorisation process for new investments has caused much nervousness among some market participants regarding its implementation of the European Union savings directive.

The subsequent increase in workload and slowdown in authorisations at Consob has resulted in several questions regarding its authorisation procedures, according to recent comments in the Italian press by one issuer that has been waiting several weeks. The queries revealed that some banks have had to resubmit documents that were lost by the regulator.

For its part, Consob, whose remit has grown considerably since the EU savings directive came into force in May (taking on supervisory responsibility for transparency requirements from the Bank of Italy, for example), has hit back at the criticism. The regulator says the problems are a result of banks struggling to adapt to the new regime.

Consob told Italian financial newspaper Il Sole 24 Ore that documents provided by issuers are often incomplete and that it therefore has to request additional information, which can be time consuming. The regulator's spokesperson added that banks are not very happy with the more demanding standards required by the new savings law.

According to Consob regulations, authorisation procedures should take no more than 10 days for listed issuers and 20 days for non-listed issuers, although it is understood that some recent approvals have taken up to two months or more.

Consob is said to be concerned that the flexible basic prospectus issued by many banks to cover an annual issuance program is not detailed enough to meet new regulatory standards and highlight potential risks, although the banks are required to produce a full, detailed document containing the actual conditions prior to the launch of each tranche.

Certificates on the rise

At the same time as all this regulatory change, the traditional dominance of "obbligazione" (bonds, usually in the form of medium-term notes) and life assurance-wrapped products is facing a challenge from the increasing market penetration of investment certificates. These products, which have long been the staple format for retail structured products in Germany for many years, have recently started appearing in other European markets, such as the Netherlands and Belgium.

In Italy, a growing number of certificates issuers - both domestic and foreign - have shown an eagerness to secure a slice of one of the largest retail structured products markets in Europe. So far, 10 banks have issued certificates there, and issuance has risen significantly since regulatory changes allowing public offerings came into effect in July 2005. According to StructuredRetailProducts.com, 72 certificates have been issued in the Italian retail market so far this year, compared to just 13 during the whole of 2005.

The Italian media has also championed certificates. Recent articles in the financial and mainstream press have extolled the benefits of certificates as a low-cost alternative to bond and life assurance products that has the added benefit of allowing much shorter investment terms.

Certificates have also been touted as a way to invest in pure growth products, since they fall outside the requirement for a minimum 1% coupon that applies to structured bonds. Certificates can therefore provide more attractive participation levels in the upside of the equity markets, for example, and providers have no need to resort to the sometimes complex payout structures often seen in traditional products.

Certificates also provide a means to offer products that feature capital protection of less than 100%, which is rare in the traditional world of bonds and life assurance. In fact, 56 of the 72 certificates issued in Italy this year have carried downside risk. And since certificates also suffer the same tax consequences as traditional products, from an investor's perspective, they appear to be an attractive alternative form of investment.

None of the major banking distribution networks have begun to distribute certificates, let alone issue them, because they are much happier selling traditional products at higher margins. A clear trend is emerging, however, and it is probably only a matter of time before one of the big networks decides to take the plunge, after which the rest will surely follow.

In the meantime, all of this uncertainty is clearly having an effect on sales. In 2005, total gross sales of retail structured products in Italy were estimated by StructuredRetailProducts.com to be worth more than EUR25 billion, which puts the market in pole position in Europe. Thus far in 2006, sales stand at EUR17 billion, and many issuers do not expect activity to pick up again until the second half of 2007.

As the Italian market continues to adjust to changes in regulations and the emergence of new product wrappers, opportunities will present themselves for both new and existing players to gain market share. Or lose it, of course. The dominance of the major banking and post office distribution networks is coming under increasing pressure, with foreign providers, in particular, looking at new ways of reaching investors with their products.

The long-term impact of these changes is difficult to predict, but it is certain that the major local networks will fight hard to retain their share of what is still a large and profitable business. Widespread change of the sort that is occuring in Italy always produces winners and losers, however, and it just may be that during the coming 12 months the market will evolve in a very different direction to that seen in the past.

- Robert Benson is managing director of Arete Consulting, the owner of StructuredRetailProducts.com. He can be reached at [e-mail].