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Structured products

Structured products are financial instruments that consist of two or more simpler instruments. They combine some features of bonds or deposits with some features of derivatives. Apart from structured deposits or bonds, there are other types of structured products like structured certificates or insurance products.

Structured products guarantee the preservation of invested capital while allowing for a high potential rate of return. It depends on the performance of the instrument they are based on. For a product based on gold, it would be the price of gold. If it fulfills certain conditions, like being in a specific price range, the potential return can be very high. Otherwise, if the price of gold on a given day is outside of this price range, the investor would receive only the money they invested.

How do structured products work? Money invested in a structured product is divided into two parts. The first part is invested in safe instruments like bonds or deposits. At the structured product maturity day the value of this part equals the value of money invested at the inception, thus allowing for capital preservation. The other part, less commission, is invested in derivatives, usually options. If the scenario assumed in the contract takes place, this part corresponds to the high potential return. Otherwise, the options expire worthless and do not cause any losses.

One of the most important advantages of structured products is undoubtedly capital preservation. In the worst-case scenario investors receive their invested money back. The only loss is the decline of the real value of this money caused by inflation and opportunity cost. Another advantage is the high potential return, much higher than in case of traditional deposits or bonds. It is correlated with a given index, metal or other financial instrument, for example, gold. The initial investment is also quite low, much lower than the price of one ounce of gold, which allows even individual investors with limited funds to get exposure to gold.

On the other hand structured products are considered by many to be very complicated. It is difficult to objectively assess the expected rate of return, since it is influenced by a variety of functions. They are usually quite illiquid. It may be hard to sell them before the stipulated maturity date and they can be bought only during subscription periods. Some issuers buy their structured products back before maturity, but it usually involves high commissions. Structured deposits or bonds very often have a maturity of more than a year, so they should be treated as long-term investments, not as tools for speculation. They also involve credit risk – the risk that the institution managing it goes bankrupt and clients lose the money they invested. The possible return on structured products is usually lower than what could be earned on other instruments. Finally, the scenario that structured products assume is not the most likely one and frequently investors receive only the money they invested.

Examples of structured products based on gold

Structured products are offered by many banks around the world, including:

  • HSBC
  • Barclays
  • Citibank

An interesting structured product was introduced in October 2011 on the Swiss Exchange Scoach – gold denominated deposit (here gold plays the role of currency and has a symbol of XAU). In order to purchase, one has to own physical gold or have a gold-linked pooled account. It can also be done using Swiss Francs, in which case they will be exchanged for XAU.

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