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Looking Under the Hood of Structured Products

Not too long ago in a not too distant land, financial advisors and asset managers formulated their portfolios with a limited range of high-quality debt and equity instruments at their disposal. Along came financial innovation and opened up a new class of assets known as structured products.

What are structured products, exactly? Structured products are designed to meet specific investment objectives, i.e., principal protection or enhanced alpha. This is accomplished by taking a more traditional security, such as an investment-grade bond, and replacing the usual payment features with non-traditional payoffs derived from the performance of one or more underlying assets. For this reason, many advisors view structured products as a subcategory within each of the primary asset classes rather than as a separate and distinct asset class of their own.

One of the unique characteristics and foremost attractions of structured products is the ability to customize across a variety of categories:

The two primary objectives that structured products help achieve are higher potential returns in a range-bound market (with or without full repayment of principal at maturity) and generating higher yields in a low-return environment.

Like every investment, structured products come with risks. They are complex investment instruments, which by nature, can make them difficult to understand and even more difficult to sell. Another common risk is a relative lack of liquidity. The full return from these complex products may not be realized until maturity, making it more of a buy and hold investment decision.

 

Having an in-depth understanding of the asset class is essential for successful integration into a modern portfolio.

 

Here is a comprehensive introduction to Structured Products to start your research.