Fintech is seeking to change the buy-side’s point of sale narrative.
IVM Markets is urging distributors to overcome the challenges of communicating risk metrics in structured products and take new approaches to go beyond headline high coupon rates.
Investors and advisors often focus solely on coupon rates to avoid having to face lengthy documents to understand metrics - Volodymyr Gubskyi
The fintech company believes this approach will change how products are presented at the point of sale as the focus will be put on the risk-reward profile of products as opposed to the headline rate.
“Higher coupon rates don't necessarily mean better performance. IVM Markets analysis shows that lower coupon products can actually outperform higher coupon products when looking at average performance over 10 years,” said Volodymyr Gubskyi (pictured), co-founder, IVM Markets.
Gubskyi noted that in a technology blue chip optimisation request from an advisor, IVM Markets risk metrics - 10 year back testing of the structured product payoff and basket - show that a product with a 20% coupon might only return 9.6% over 10 years on average across all scenarios, while returning 70% of capital in bad scenarios, while a product with a lower coupon of 15% could return 10.3% on average across all scenarios, while returning 94% of capital in bad scenarios.
“The critical factor is understanding the underlying risk metrics, not just the headline coupon rate,” he said.
Eric Glicksman, president, IVM Markets, added that given the information investors and financial advisors can now access “they should look beyond the coupon level and consider multiple risk metrics” like average scenario performance, repayment rates in adverse scenarios, maximum drawdown and the overall risk profile of the product”.
“The goal should be to find products that offer the best risk-adjusted returns, not just the highest nominal coupon rate,” said Glicksman.
Hurdles
Gubskyi noted that some of the key challenges in communicating risk metrics for structured products include the lack of standardisation when discussing risk in structured products and the multiple metrics available “which make it difficult for brokers and asset managers to develop consistent and compliance approved analytics summaries and materials that will also resonate with clients”.
Market education gaps and limited understanding of risk metrics has resulted in a tendency to focus on the most attractive coupon without analysing underlying risks - Eric Glicksman
“With more than 20 different risk metrics available it is difficult to explain nuanced risk factors to clients,” he said.
“Investors and advisors often focus solely on coupon rates to avoid having to face lengthy documents to understand metrics.”
Glicksman (right) added that there are also limitations on the sales approach as salespeople struggle to sell products with lower coupons and find it difficult to demonstrate long-term value vs. short-term appeal.
“Market education gaps and limited understanding of risk metrics has resulted in a tendency to focus on the most attractive coupon without analysing underlying risks. There is resistance to learning complex risk assessment approaches,” he said, adding that “regulatory constraints are also a challenge as the differing regulations across markets (US vs. Europe) along with restrictions on back-testing in marketing materials have increased compliance difficulties in presenting risk information”.
New narrative
According to Gubskyi, the core challenge is developing a clear, simple way to communicate complex risk information that helps clients make informed investment decisions beyond just looking at coupon rates.
“IVM can now offer performance metrics such as average scenario performance and back-testing over 10 years. IVM can also show the percentage of time products are in the money (ITM), the average product life and overall repayment rates,” said Gubskyi.
Other risk assessment approaches offered by IVM Markets include forward looking Monte Carlo stress testing, repayment during downturn market scenarios, maximum drawdown, percentage of time losing money, analyst consensus on underlyings and short-term performance for newer products.
“We provide comparative analysis techniques to evaluate products with different coupon rates and can also assess performance across multiple scenarios,” said Glicksman. “We recommend that financial advisors use multiple metrics to gain a comprehensive view of a product's performance and risk profile, rather than relying on a single indicator.
“The market needs a new approach on assessing risk and optimizing coupon levels. IVM offers the tools that can help wholesalers and advisors gain more confidence and better understand the products they are selling.”
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