Hong Kong braced for structured product comeback

By Peter Shadbolt

Published: May 6 2011 17:12 | Last updated: May 6 2011 17:12

For more than two years, minibond protesters in Hong Kong have been as much a part of the urban landscape as the bronze lions standing sentinel outside the offices of HSBC.

Noisy, ragged, and extremely persistent, the protesters could sometimes be seen retiring with bowls of noodles, leaving a recorded protest message on a megaphone on the pavement, and allowing the two police officers on duty effectively to continue the protest for them.

While a hardcore of protesters remain, peace has recently broken out in minibond land.

In March, the 16 banks involved in the fiasco agreed to buy back a large chunk of the financial products at the centre of what became a major scandal in Hong Kong. The minibond affair had ripples that extended to Singapore and elsewhere in Asia, but nowhere was the damage more evident than in Hong Kong.

Some 40,000 investors in Hong Kong – many of them mum-and-dad investors and retirees who had been promised “guaranteed” returns – ploughed a total of HK$15.7bn ($2bn) of their savings into minibonds, credit default swap baskets, and other complex products backed by Lehman before it went bankrupt in 2008.

Savings were wiped out overnight and minibond holders went on the rampage, picketing banks and financial institutions across the city. Some 18 months later, victims groups managed to wring a settlement of between 60 to 70 per cent out of the banks.

While most were happy with the 2009 settlement, some were still bitter with the recent 85 to 96.5 per cent offer.

“The simple fact is, these banks have deceived us,” Eddy Chan, the chairman of a victim’s group told a news conference. “They tricked us time and time again. Actually, I think we deserve more than 100 per cent because of the time and energy we wasted on the fiasco.”

By any standard the minibond saga represented a low point in the banking regulatory framework of Hong Kong.

While some accuse Hong Kong’s Securities and Futures Commission of letting banks off the hook by dropping further investigation into the sale and distribution of minibonds after the first settlement, banks have begun to take measures to regulate the sector.

Most banks now make sure customers read risk statements.

Other proposals from the Hong Kong Monetary Authority under discussion include the separation of deposit-taking activities from investment-selling activities in bank branches. The authority also said that all conversations related to sales of investment products should be recorded.

Despite this, and more than two years on, structured products are braced for a long climb back.

“While they’re off the bottom, they’ve still got a long way to go,” says one Hong Kong banker.

From a giddy high of $350bn in 2007, structured products have sagged globally to a year-to-date figure of $28bn, according to estimates from Credit Suisse, showing just how far they have to go.

Nevertheless, the bank has been making a tentative return to structured products as the appetite for risk begins to grow.

The Taiwanese retail market – where volumes have been down as much 90 per cent from the 2007 peak – has effectively been closed since the collapse of Lehman Brothers, but Credit Suisse completed the Taiwanese regulator’s new requirements for non-professional investors late last year to launch the largest structured product of 2010.

The first to re-enter the market after the regulatory clampdown, the bank has had to fulfil intensive legal requirements, as well as requiring offshore distributors to appoint an onshore “master agent” who assumes responsibility for the product and posts a bond to cover investors.

The structures, too, are tamer than the type of wildcat notes that were popular before the crisis. In this case, the bank teamed up with Cathay Life on an eight-year, New Zealand-dollar denominated Kospi 200-linked note, launched in June with a notional of around $110m.

Its second Taiwan structure is made up of a six-year, Australian-dollar denominated Topix index-linked notes at a notional $167m. At maturity, the notes pay a lump sum, with a potential uncapped upside depending on the performance of the Topix. Cathay Life, meanwhile, has taken the notes and put them with life insurance policies in a deal that is similar to variable annuities.

With Credit Suisse holding open the door, other banks – including UBS, Deutsche Bank and Barclays Capital – have rushed in through the cracks, albeit with limited transactions of around $30m.

Income-linked structures such as the one being embarked on by Credit Suisse were already popular before the crisis and mark a cautious return to form in structured products in Asia. Singapore, only late last year, allowed nine of 10 financial institutions to resume selling structured products after a ban of between six months and one year.

The bank believes the structure will be popular in Taiwan where a deposit rate of less than 1 per cent is an incentive to investors to look to higher interest rate countries such as Australia and New Zealand.

The offering from Credit Suisse, who was not involved in the minibond scandal, is typical of a less sophisticated approach to structured products where simplicity is now key.

Instead of difficult-to-understand, opaque products, analysts say structured products in Asia are more likely to pursue equity-linked, currency-linked and dual deposit, dual-currency deposit structures in the future.