Structured Products in 2022: Navigating Turbulent Markets

If someone were to tell you that 2022 was a good year for structured products, they would be lying. Let’s face it, in a year where both bonds and equity had negative performances, structured products were no different.

The financial markets of 2022 were among the worst in the previous 50 years, and it was solely because of one factor: inflation. With central banks' quantitative easing policies during COVID affecting the demand for goods after the economies opened, allied with disruptions in the supply chain and lastly, the war in Ukraine affected oil and food prices, it meant that inflation was not transitory as some expected but that it was high throughout 2022.

One of the primary risks that structured products face is the risk of inflation. Inflation is defined as the increase in prices of goods and services over time which can erode the purchasing power of money. This can be a concern for investors in structured products because the returns on these products may not keep pace with inflation.

There are several ways in which inflation can impact structured products:

·??????Interest rate risk: Many structured products, such as bonds and bond-like products, are sensitive to changes in interest rates. When inflation is high, central banks may raise interest rates to curb demand and reduce inflation. This can lead to a decrease in the value of structured products with fixed interest rates, as investors may be willing to pay less for these products when interest rates rise.

·??????Credit risk: Some structured products are backed by forms of debt. If inflation is high, borrowers may struggle to make their payments, which can increase the risk of default for these products or affect the credit rating of the issuer.

·??????Equity risk: Structured products tied to equities, such as index-linked products, may be affected by inflation through changes in the underlying stock market. Inflation can affect the earnings and dividends of companies, which can impact the value of their stock.

Although different markets had varying performances, the performance of structured products has been similar in most countries. For example, according to Structured Products Intelligence data, as of December 21, the average live structured products in France were at 92.57% of their initial level (-7.43%), while in the US they were at 95.62% (-4.38%) of their initial level.

However, there is a silver lining. As you can see, even while structured products had a negative performance, they offered a better return compared to fixed income products, for instance, The U.S. Corporate Fixed Income indices currently have a year-to-date loss of 14.81%.

So, the structured products market did have a negative performance in the first half and failed to recover but one also needs to take into account that there were considerable number of products expiring early which decreased the volume that came back to the market. As products were below their call strikes, it meant that investors did not receive the coupons and returns that they were expecting.

In conclusion, the financial markets of 2022 were among the worst in recent history due to high levels of inflation caused by a variety of factors. This had a negative impact on structured products, which are sensitive to inflation through interest rate risk, credit risk, and equity risk. Despite this, structured products did offer a better return compared to some other asset classes, such as fixed income products. It is important to consider the impact of inflation on structured products and to carefully evaluate the risks and potential returns of these products before investing.