While institutions and clients in most countries continue to complain about how low interest rates are affecting savings and how difficult it is to provide meaningful returns and capital protection with structured products, Axa Belgium has found an answer with an innovative solution, offering full capital protection and 100% participation on the performance of the Stoxx Global ESG Leaders Diversification Select 50 index.
The 10-year note, Optinote ESG Leaders switchable - AXA Belgium Finance (NL), allows the issuer, Axa Bank Europe, to switch every year the equity coupon for a fixed coupon of 4% pa, versus the 10-year swap rate of 0.289%.
Switchable bonds are interest rate derivatives, where subsequent pay-outs depend on the future (and thus unknown) evolution of market's interest rates, such as the evolution of the Euribor. As such and due to the long term optionality, the client is able to finance the equity coupon, while guaranteeing capital, through the expectations that interest rates in Europe can't keep at a low level for 10 years. Even if the issuer switches to a fixed coupon, due to a sharp increase in interest rates, a 4% pa. coupon looks more as gain than a loss, at this moment.
In the eventual situation that interest rates don't increase dramatically, at maturity, the product offers minimum 100% capital return plus 100% participation in the performance of the index.
The high level of participation is only possible due to the underlying chosen - the Stoxx Global ESG Leaders Diversification index, which selects companies that can deliver sustainable income while integrating best-in-class environmental, social and governance (ESG) principles.
There are two main reasons for the high participation: lower volatility - achieved with two filters when choosing the underlyings (Low correlation basket - where they retain the underlyings with lowest correlation from the 1,800 global stocks present in the Stoxx Global 1,800 index; low volatility - where they also choose only the low volatility stocks, lowering the index volatility); and high dividend - As they retained the top 50 stocks with higher dividend after achieving a low volatility basket.
These three filters, in combination with the funding obtained from the switchable option makes it possible to offer 100% participation in the rise of the underlying. The Stoxx Global ESG Leaders Global Select 50 index has a strong allocation to Europe (40% exposure as of September 2016) and to financials and utilities industries (30% exposure as of September 2016), according to Stoxx.
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