As the ranks of the world's wealthy increase, sales to high-net worth families and individuals will no doubt remain a key focus for structured product manufacturers and distributors. In the US, this is potentially a massive opportunity, especially for European structured product houses keen to seek out new, unsaturated markets. Inroads are being made, the product makers maintain. But without accurate volume figures it is difficult to gauge whether these claims are true or just hot air. However, the practices of one multi-family office business, New York-based Geller Family Office Services, gives an insight into why many high-net-worth investors in North America are still reluctant to buy structured notes.
Geller is one of only 30 multi-family offices in the US with more than $1 billion in assets under advisement. A typical Geller client has a net worth in the $25 million to $150 million range and includes successful entrepreneurs, well-known entertainers and long-established families and individuals, the firm says. Maria Neary, managing director at Geller and a former private banker with JP Morgan, says structured products are very much on the company's radar screen, but so far none of her clients have actually bought them.
"Most of our clients don't have the inclination to use them, but even the ones that do have the inclination and do look at them haven't taken them up yet," she says, adding that the firm's managers always look at structured notes when they are brought to their attention, but they would never recommend a single product to all their clients. "We look at each client and assess what their own personal investment allocation should be and which products might be appropriate for them, and then we work with providers to fit those needs, so we don't look at products and then recommend them to clients necessarily," she says.
Part of the problem is how structured notes fit into a traditional portfolio optimisation model. When creating an optimised portfolio in terms of risk and return, advisers generally pull together numbers for the volatility of each asset in the portfolio, the expected returns of the assets and their correlations. These go into a model that shows what proportion of the portfolio should be invested in each asset class in order to give a maximum amount of expected return for a given level of risk taken - Geller actually uses a model based on semi-variance optimisation, which means the risk input variable used is downside risk rather than standard deviation, but the same principals apply. Introducing a structured note, which in a sense is a mini-portfolio in its own right, can create difficulties for this type of framework. "In general, when we're talking about putting an asset allocation together with some equity, some fixed income and an allocation to hedge funds, it's hard to see how notes fit in," Neary says.
Meanwhile, the usual concerns about fees and lack of transparency are still an issue. "I have to say I think the fees have come down a little bit recently, but the fees can be very high, and you may not even see them all because some of them are hidden in the options costs," says Neary, adding that an upfront fee on top of a management fee would put them off.
Structured note payouts are not always transparent for clients either. "Sometimes you have to read the details to understand that, well, you may be getting the S&P 500 but you're not getting the dividend payments." And there are other trade-offs. The credit risk of the issuer can be a deal breaker, says Neary.
Geller has recently looked at notes from BNP Paribas and AIG, including a commodity-linked note. So will the firm's clients ever opt for a structured product?
More than likely at some point, says Jon Persson, head of financial planning operations and a former Citigroup private banker. "There are situations where we could use a structured note to give an extremely conservative client exposure to emerging markets for example, at reasonable cost while protecting them on the downside," he says. For now, a structured note would only be used by Geller to fulfill a very specific need for a sophisticated and financially literate client.