Derivatives and Structured Products
Building blocks
Understand forwards, futures, options and swaps, and how they are used to hedge, speculate or gain exposure. Know the payoff profiles of long and short calls and puts, the meaning of strike, premium, intrinsic and time value, and the difference between exchange-traded (standardised, cleared, margined) and OTC (negotiated, counterparty risk) derivatives.
Structured products
Structured notes combine a bond with a derivative overlay. Candidates must understand principal protection, participation rates, caps, barriers, knock-in and knock-out features, autocalls, and worst-of baskets. Critically, understand that a barrier can extinguish protection, that issuer credit risk remains, and that complexity must be explained fairly and clearly to the client.
Traps
- Assuming a principal-protected note has no risk - issuer credit risk and opportunity cost remain.
- Confusing the buyer's and writer's obligations: the option buyer's maximum loss is the premium; the writer's is not capped.
- Missing that a knock-out can terminate exposure just when the client wanted it.
- Overlooking margin calls and daily settlement on futures.
- Treating a structured product's indicative value as a guaranteed redemption amount.
Rule of thumb
For any derivative or structured product, identify four things before discussing return: who bears which obligation, what the maximum loss is, what credit exposure exists, and what event (barrier, call, expiry) changes the payoff. If you cannot state all four, the product is not yet suitable for recommendation.