Market view: Wrappers'delight

Germany is home to a thriving and unique structured products market. Robert Benson explores the intricacies of various German wrappers and finds a culture that encourages an adventurous range of payoffs and underlyings

Despite attempts to create a single European market in financial services, most EU countries continue to exhibit significant differences in their local products and services. This is certainly the case with structured products, where the types of products available, and in particular the 'wrapper' in which they are offered, differ widely across the EU.

The German market is perhaps the most distinctive in this respect. Not only is it dominated by a type of wrapper that is hardly ever seen elsewhere (listed certificates), but also the sheer volume of products available dwarfs that of other markets. For example, StructuredRetailProducts.com will soon be launching a German product database which will contain more than 30,000 structured products (excluding warrants and delta one certificates). This compares to a total of 5,500 products currently listed for Spain, Italy, France and the UK combined. Much of this is due to the wide range of underlyings and maturities that are available, with a considerable number of products linked to individual equities.

In addition, retail investors in Germany tend to buy and sell products differently than is the case elsewhere, giving the lie to the stereotype of German investors as cautious people who prefer 'safe' bond-style investments to more 'risky' equities. When it comes to structured products, there seems to exist a culture that not only encourages a more adventurous range of payoffs and underlyings, but also features a much more active style of investment compared to the 'buy and hold' approach common in most other countries.

This situation worries some sections of the German financial community. The head of the BVI association of fund management companies has been quoted as saying that growing sales of derivatives-based products are an "alarm signal" and that "these sophisticated products are sold aggressively on the basis of half-truths and hidden costs."

Substantial growth

While the German market has evolved very differently to other structured products markets in Europe, there is no doubt that it is thriving. And figures from several sources recently have revealed that it is experiencing substantial growth.

The Derivate Forum, established by Deutsche Bank, DZ Bank, HVB, Sal Oppenheim and West LB, commissioned a report by the European Business School which revealed that the combined market for certificates and warrants grew by 25% in the first half of the year. The group has now increased its growth forecast for the full year to between 30% and 40%.

Structured product-based assets under management for the forum members increased by E7 billion between January and June this year, and now stand at E34.7 billion. Based on an assumption that forum members' market share is 50% of the total market, the group estimates that total first-half outstanding volume is between E60 billion and E65 billion, and will rise to between E65 billion and E75 billion by the year end.

Separately, figures from German exchange Deutsche Börse show that most categories of structured products were winners in volume terms in July this year, as overall volume increased by 25%. The exchange's order book for outperformance certificates was up almost 100% month on month to more than three million. Exotic leveraged products were up 78% to more than two million. The only major product type to post a fall in volumes was basket certificates, which were down 12%.

Finally, figures from the Börse Stuttgart exchange, where the majority of certificate-based structured products are listed in Germany, has revealed that at the end of June 2005, an estimated E50 billion worth of certificates, including many structured products, were listed on their Euwax platform. They expect this figure to reach around E200 billion by 2008.

Stuttgart reported that investment certificates, the vast majority of which are structured products, have the lion's share of the market at 73%, while knockout structures also fared well, having increased by 25% on the same period last year. 'Exotic' product launches increased by just 3% over the same time period.

Interestingly, the exchange reported that warrants fell out of favour as issuance fell by 10% compared to last year. The first six months of 2005 saw a total of 34,000 new products launched in Stuttgart, an increase of 12% on the previous year. The exchange's newsletter also revealed that German investors prefer products with a simple structure such as index and guaranteed certificates.

Recommending certificates

This rapid growth is perhaps unsurprising given news from the Deutsche Derivate Institut (DDI) that asset advisers and banking advisers in Germany tend to recommend clients invest a third of their portfolios in certificates.

Seventy per cent of respondents to a DDI survey reported a positive experience with derivatives investments. Almost half the group of 100 advisers said it is more profitable to sell certificates than investment funds.

On the other hand, there still appears to be room for further growth in sales to the adviser community. According to a recent survey by the Derivate Forum, two thirds of investment advisers still don't highlight certificates or equity-linked notes to their clients.

Only 34% of investors had been shown certificates or share-linked bonds by their investment adviser, though 61% of those were satisfied with the consultation on such products.

The survey revealed that 6% of Germans – 3.9 million people – own certificates. Most common are index-linked certificates (24%) and guaranteed certificates (21%), while only 16% have heard of discount certificates, 12% basket certificates and 5% outperformance certificates.

Certificates issuance is divided between the main German banks, primarily Deutsche Bank, Commerzbank, DZ Bank and Dresdner Bank. Two local private banks are also very active in the market: Trinkaus & Burkhart and Sal Oppenheim. In addition to these, a smaller number of foreign banks, including ABN Amro, SG, BNP Paribas, Goldman Sachs and Citigroup are regular issuers.

Products are most often listed on the Stuttgart exchange, but Frankfurt (Deutsche Boerse) and some of the regional exchanges are also used.

Minority wrappers

While certificates are the dominant wrapper for structured products, products do appear in other forms. For example, a small number of funds are available specifically for pensions investment, such as the CPPI-based DWS FlexPension Funds, and the Skandia Guaranteed Funds.

And two UK insurance companies, Scottish Life International and Clerical Medical Europe, have succeeded in distributing insurance fund-wrapped products in Germany, also targeting pensions investment.

Scottish Life International recently said its Safe Combination concept had had "enormous success" in Germany, where brokers are switching on to the idea of using the products as a long-term replacement for, and adjunct to, with-profits. This open-ended 'rolling fund' product has been available in the UK since 1997 and has developed a track record that is now helping it boost sales.

So the vibrant and active German structured product market has clearly captured a significant share of the investment market generally. While the European playing field may still not be particularly level, it is one in which the concept of structured investments, in all their various forms, continues to flourish.

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