The market environment has made private bankers more retiring than ever. Those that did step forward told Pablo Conde the current crisis means a move towards simpler products, a portfolio management approach and ultra efficient servicing.
"Most people are unsure about the market and about how the credit crunch is going to be solved," says one private banker who asked not to be mentioned. "There is a lot of uncertainty and this is changing the approach of private investors and their providers."
Uncertainty may be the dominant theme, but an army of banks, insurers, brokers, independent financial advisers and money managers are looking to win a competitive edge as the credit crisis triggers client migration to safe-haven institutions and asset classes.
The main beneficiaries have been traditional old private banks, or even independent asset managers. "We are seeing people taking out the money from private banks and giving it to small managers, because banks are getting too big and that is bad from the private banking stand point. In this space people look for a tailored approach and big banks do not offer that approach," continues our source.
The small-is-beautiful approach also means private banking is becoming more competitive as HNW clients increase the number of accounts they hold to spread the risk. "There has been a destruction of wealth and capital, and people will be wary," says Nicholas Coghill, executive director at Morgan Stanley International.
"We are in the business of trying to generate returns in any environment, but it is not a question of just putting products out because the payoffs look attractive. There has to be a real exercise of thinking about asset allocation behind any product".
"There's a lot of bashing [of] products as a whole. I would never classify a product as good or bad per se. It has to make sense overall, and on a portfolio basis," Beat Wittmann, the Zurich-based CEO of investment products at Julius Baer, told 50 high-net-worth clients at a lunch held at the China Club in Hong Kong earlier this month. "Structured products can provide interesting exposure in the short and the long term."
Case proven
Despite the dent to the reputation of the entire product set created by the Lehmans collapse, bankers believe the case for structured products is stronger than ever. "In the private banking and discretionary asset management arena there is a need to move quickly to take advantage of market opportunities across all asset classes. Structured products offer flexibility and quick implementation to give exposure to different regions and asset classes," explains Coghill.
"Obviously the environment has changed quite dramatically, but for the medium term... the structured products market will grow, although the product mix will probably change slightly because the barrier reverse convertible products [at] the centre of demand are providing very weak performance because of the worst-of feature," adds Patrick Rutheman, of Swiss Private Bank Wegelin & Co.
Instead, there has been a rise in demand for capital protection: "Before the credit crunch, volatility was very low and it was cheap and easy to buy capital protection. But even though the returns are not very spectacular, these products can offer a more stable return than the risky ones," he continues.
For example, Zurich's Finvest Asset Management has launched a capital-protected note for wealthy individuals and institutional investors outside the US. The expected annual return is between 12%-20% and capital protection is provided by a triple A-rated institution.
Despite the immediate dislocation, it is also easy to come up with solutions for an environment displaying high volatility and high dividend yields. "It's quite easy to tailor the payoff of the product to the view or the need of the client," states Rutheman.
The other advantage of structured products is the timing: in Switzerland you can launch a product in a matter of hours, and that allows you to take opportunities in the financial markets. "They are also very easy to use and although [with some structures] investors can lose the money they have invested... there will never be a margin call, he explains.
Another shift sees clients prepared to take a broader view of their investments: "Traditionally, private investors invest(ed) a large proportion of their portfolios into equity assets," says Pierre Bes, a managing director at Barclays Capital in London. "However, a few years ago we began to see a better approach to asset allocation... and a need for increased diversification.
This trend clearly accelerated at the end of last year with the credit crisis. On average, equities now represent a much lower proportion of client assets, while exposure to fixed income, inflation, FX, commodities and alternative investments has increased. In the current volatile environment, cash positions have also surged."
"Recently commodities have become very appealing," agrees Rutheman. "And structured products are probably the most important sustainable way to provide exposure to the commodities market. We also have experienced a growing demand for capital-protected structured notes linked to commodities for the same reason: clients are demanding protection and exposure to this asset class."
As well as putting more emphasis on protection, liquidity and low volatility, investors are also looking for strategies that are de-correlated from the stock markets, say bankers: "We have seen a resurgence of interest in absolute return strategies in various asset classes as a complement to pure directional plays. With commodities for example, investors have bought managed long/short portfolios, rather than just buying exposure to an index. They value alternative solutions, as well as new market exposure. We are trading products linked to North African economies such as Egypt, GCC and Middle East countries, and there is a need to go elsewhere to look for markets and asset exposure in order to capture profit and growth," says Bes.
Most structured products professionals agree the future for both private banking and retail markets will involve a core/satellite approach to investing, in which 80-85% of product catalogues are based on a core suite of local index and share basket-linked products offering income or vanilla growth. More sophisticated payoffs and exposure to other underlyings will be found at the margins.
Increasingly the banks have been moving products that originated in the high net worth arena into the mass affluent and even pure retail spaces, though, 'satellite' innovations often remain in the private banking arena. This process will continue, says Morgan Stanley's Coghill, because it reflects the increased focus on the underlying and how it fits into the investment cycle. "I expect this to continue, especially in light of current markets," he says.
Barclays' Bes cautions, however, that the process can never be complete, either between market segments or between sales channels: "There is a substantial difference between the products which are offered on an advisory basis and those which are offered on a discretionary basis," he says. "Although there is no limit to innovation when a client selects a product, managers of discretionary mandates generally look at simple and straightforward products and strategies."
Senior service
The question now is what approach will help businesses grow, or even survive: "The market has needed this shake up from both the buy and sell side. Focus will now be on quality of service and trust and those people who have been in the market for a long time servicing clients with a developed platform will be the ones who come through." You cannot put a price on reputation and personal franchise, he says.
Both private banking and retail investors want a holistic approach, rather than a sales-based approach, to their investments: "As a client on the buy side, you will want to deal with someone who understands the investment management world and asset allocation, as well as someone who can cover tax and legal questions, wrappers, derivatives mechanisms, secondary
market issues, and so on," adds Coghill.
"The secondary market is very important because structured products are not there to buy and hold," adds Rutheman. "We believe it is important to have a secondary market where the clients can come and trade their products."
"It is going to be a smaller world," concludes Coghill. "[The] winners will be those who can be consistent with their offering, comprehensive in their service and credible as a third-party after-sales service. Some banks will obviously be taking a strategic view on derivatives within their risk appetite and structure going forward, but the industry will still be here. Love them or hate them, [structured products] will play a major role in the wealth management arena for a long time to come, as people look to generate alpha and preserve wealth in the prevailing uncertain economic environment."