the european retail structured investment products market

The European Retail Structured Investment Products Market

2006Based on the Risk Executive Report

PANORAMA& TRENDS

Published in December 2006

The information contained in this document is provided for general educational and informational purposes only. It should not be treated as a substitute for professional advice in relation to any matterscontained herein. Changes in circumstances and market practice may occur after the compilation of this document which may make the information contained herein no longer accurate or different fromthe current position. While the information herein is derived from sources reasonably believed to be reliable, Société Générale do not represent or warrant the reliability, accuracy, completeness, timelinessor fitness for any purpose of any of the information. You should not rely upon any information contained in this document for any transaction or purpose.

Developed in the 1990s and promoted with impressive marketing campaigns,structured investment products have experienced spectacular development overthe past few years, which still continues today. The structured investmentproducts market has matured into a sophisticated market with sales of€151.8 billion in 2006. These products now occupy a recognized place inacademic theories of wealth management and asset allocation.

As the global leader in the engineering of structured investment products, Société Générale Corporate & Investment Banking plays a critical role byconstantly providing new investment solutions and by educating the marketthrough the publication of investment and product guides.

SG CIB has recently partnered with the specialist risk management and globalderivatives press – RISK – to supply a complete picture of the European retailstructured investment market. The first part of this document gives the key pointsof the latest RISK Executive Report: “The European Retail Structured InvestmentProducts Market 2006/2007”, published in December 2006.

In the second part, SG CIB highlights global market trends by showcasinghow the latest industry innovations allowed European distributors to meet variousclient needs from the most conservative to the most dynamic ones.

By exploring the European retail structured investment market, SG CIB providesstructured products players (i.e. investors, distributors, asset managers andstructurers) with unprecedented intelligence to navigate this growingproduct universe.

Arnaud Sarfati Financial EngineeringHead of Equity Linked Structured ProductsSociété Générale Corporate & Investment Banking

3

Contents

Part 1 – Risk Executive Report Summary p. 04

European global overview 2006 p. 05

Types of investor

Distribution and marketing

Types of return

Types of underlying

Regulatory environment

Part 2 – SG CIB analysis p. 10

Global overview 2006 p. 11

Market parameters

Focus on short-term memory investors p. 13

Renewed interest in products indexed to growth

in the underlying

Development of early redemption products

Development of partial protection products

Focus on long-term memory investors p. 16

Development of the Click-Income concept

Development of multi-asset class products

Emergence of absolute return strategies

Focus on one-off investments p. 19

Development of new underlyings

Glossary p. 20

4

Part 1 -Risk Executive ReportSummary

SG CIB has recently partnered with RISK, the specialist risk management and global derivatives pressto supply a complete picture of the European retail structured investment market. This first part givesthe key points of the latest RISK Executive Report: “The European Retail Structured Investment ProductsMarket 2006/2007”, published in December 2006.

About Risk

Risk, a publication of the risk management division of Incisive Media, is the world's leading financial riskmanagement magazine.

Since its launch in 1987, Risk has grown with the markets. In its 20th year, Risk continues to be the onlymagazine truly dedicated to the business of all aspects of financial risk management and the globalderivatives markets.

Incisive Media is a specialist business information provider operating in six core markets - financial riskmanagement, retail investment, insurance, mortgage, capital markets/financial IT and photographic.The Group delivers key information to defined target audiences across a variety of platforms includingmagazines, conferences and exhibitions, websites, newsletters and databases.

Incisive Media is focused on leading markets, building new and innovative products and developingpartnerships with clients. Incisive Media's market leading brands include Risk, Energy Risk, InvestmentWeek, Post Magazine, Credit, Inside Market Data, Waters and Bloomberg Money.

Risk Books, the book publisher of Incisive Media, is an established world leader in specialist books onthe financial risk management and derivatives markets.

PART 1 - RISK EXECUTIVE REPORT SUMMARY

5

European global overview 2006

The total size of the retail Structured InvestmentProducts (SIPs) market in Europe in terms of annualsales is estimated at €136.9 billion in 2005,representing a year-on-year increase of 11.1% over2004. Switzerland, Italy, Spain, Germany and Franceare the strongest markets. Germany and Spain areleaders in product diversity while the UK is home to anumber of market regulations. Although SIPs currentlyaccount for only a small proportion of total assetsunder management in Europe, they are one of thefastest growing asset classes. Sales are expected tocontinue their upward surge in 2006 with anestimated value of €151.8 billion, an increase of10.9% over 2005.

There are seven main reasons for this growth:

■ Availability of capital guaranteed products;

■ Ability to pre-set maximum and minimum returns;

■ Exposure to unconventional and exotic markets;

■ Low-interest-rate environment;

■ Huge success of some specific products;

■ Marketing and sales promotion efforts on the part ofissuers;

■ Innovation in structuring SIPs.

In 2005 the market grew by 20.5% in terms of thenumber of products available. This increase inproduct diversity was driven by Germany, where ahuge number of warrants have been issued due to theshort maturity period they offer. This shows that thereis no direct link between the number of products soldand total sales. The UK is the only market to havewitnessed a decline in the number of productsavailable. Switzerland, France, Italy, Spain andGermany are clearly ahead of other markets in termsof product innovation and diversity.

The European market is highly concentrated. Thetop three countries in terms of market share (Switzerland,Italy, and Spain) account for half of the total market.Switzerland alone accounts for 20% of the Europeanretail market, with a healthy growth rate of 10% a year(mainly due to warrants). The major gainers in marketshare in 2005 were Germany (+30%), Belgium (+30%)and France (+26%). Conversely, Italy and the UKregistered the greatest declines. Poland and Norway alsoenjoyed huge growth but these markets are too young tohave an impact on the overall growth rate in Europe,although it does show that investors are broadly confidentin SIPs.

Sales of the retail SIPs market in Europe (€bn) Percentage share of various countries in 2005 (e)

Sales of the retail SIPs market in various European countries (€bn)

123.2

+11.1% +10.9%

136.9 151.8

0

50

100

150

200

2004 2005 (e) 2006 (e)

25

20 18

12.310 9

27.5

20 18.9

14 13

20 20.2 18.6 18.213.8

10.88

15.5

7.3

30.3

05

101520253035

Switzerland Italy Spain France Germany Belgium UK

2004 2005 (e) 2006 (e)

Italy 15%

Switzerland 20%

France 11%

Germany 10%

Belgium 9%

UK 6%

Others 15%

Spain 14%


6

Types of investor

The total SIPs market can be broken down into two discrete consumer segments or investor classes, namely:retail investors and institutional investors. Furthermore, the retail market is considered to be comprised of twotypes of investor: mass retail or private investors and high-net-worth individuals (HNWIs).

■ The mass retail market is driving growth indemand for SIPs in Europe. It accounted for 79% oftotal European sales in 2005 and about 50% in eachindividual country. Most investors belong to the middleclasses and they are traditionally conservative in theirinvestment approach. They are looking for productsoffering a capital protection feature as they tend toevaluate risk on the basis of potential capital loss. Theywant to invest in safe products that earn a higherreturn than government bonds. They prefer to buythese products directly from banks and the proportionof the market taken by this segment is thereforedirectly linked with bank presence.

■ HNWIs (High Net Worth Individuals) accountedfor 21% of total SIP sales in Europe in 2005, withdominant positions in Germany and France. However,this segment is non-existent in some countries such asSpain and Poland. These investors take a radicallydifferent investment approach from the mass retailsegment. They are more enterprising in their choicesand usually go for aggressive products offering returnsup to 30%.

Distribution and marketing

Banks are the primary distributors of SIPs in the retailmarket with a market share close to 86%. The mainreason for this is that small retail investors, whocomprise the bulk of the market in most countries,prefer to buy these products through banks to avoidpaying the commission charged by intermediaries.Whereas some banks choose only to market their ownproducts, others sell SIPs structured in-house plusthose structured by other organizations (known asopen-architecture framework).

IFAs and brokers accounted for 12% of SIP retailsales in 2005. They are individuals or organizationsemployed to provide investment advice on a fee basis,with brokers acting as intermediary between theproduct issuers and buyers of SIPs. They can eithersell SIPs from multiple issuers or from one singleissuer.

There are also other distributors, such as insurancecompanies in Germany and Belgium, post offices andeven supermarkets in the UK, and online portals or e-trading platforms in Italy and Switzerland.

The scope and extent of marketing activitiesvaries from country to country. In France, Germany,Spain and Sweden marketing is considered to be animportant tool, which is less the case in othercountries. Marketing aims to increase awareness onSIPs by providing information about the products andtheir features to promote sales. Advertising andmarketing methods are varied, including radio, TVcampaigns, press campaigns, billboards, e-mails, andInternet campaigns.

There are no uniform regulations restricting orregulating the advertising of SIPs in Europe.

Breakdown of the European retail SIPsmarket by type of investor in 2005

Mass retailinvestors

79%

HNWIs 21%



7

Types of return

If we classify products by type of payout at maturity, we can divide the market into capital-guaranteed products,yield-enhancement products, tracker certificates and warrants.

■ Capital-guaranteed products are the mostpopular, with €95.14 billion of sales in 2005 and69.5% market share. In Italy, Belgium and Spain,they can even take up to 99% of the market. Capital-guaranteed products typically offer higher returns thanfixed-income instruments. They are defensiveinvestments with little or no capital risk. The success ofthese products has been driven by risk-aversion onthe part of investors and poor equity market.

■ Yield-enhancement products recorded annualsales of €15.83 billion in 2005, with importantmarket shares in Switzerland (mainly reverseconvertibles) and Germany. They provide a higherreturn but with a higher risk-exposure than capital-guaranteed products. They can be tailored for aspecific investor and are often used to access volatileand exotic markets.

■ Tracker certificates are products that track theperformance of the underlying asset. Sales totalled€10.8 billion in 2005. The level of risk for theseproducts varies from medium to high depending onthe underlying. They provide investors with theopportunity to invest transparently and inexpensively ina combination of assets.

■ Warrants give the buyer the right to sell or buy theunderlying asset at a pre-specified price within a pre-specified time frame. Sales of warrants amounted to€9.42 billion in 2005 with a large proportion inSwitzerland but also in Sweden, Germany, Austria andthe UK. Warrants are frequently exchange-traded inthese countries. One of the reasons for their successis the depth of knowledge that investors have aboutthem.

Breakdown of the European retail SIPsmarket by type of return in 2005

TrackerCertificates 7.9%

Warrants 6.9%

Yield EnhancedProducts 11.6%

Others 4.1%

Capitalguaranteed69.5%



8

Types of underlying

Another way to classify SIPs in Europe is by type of underlying. This is a more flexible means of classification asproduct structuring depends on the risk parameters associated with the underlying and as the performance of theproduct depends directly on the evolution of the underlying, which is quite easy to observe.

■ Inflation-linked bonds protect the investor fromfluctuations in the consumer price index by applying a“real” interest rate or coupon to the principal amount.Along with inflation-linked derivatives, they represent5.8% of the European retail market with the mainmarket shares in Italy, France and Spain.

■ Commodity-linked products allow investors tomake investments in commodities without taking directexposure. Commodities in general gained popularityduring 2004 and 2005, and particularly base metals,energy stocks and oil. Today commodity-linked SIPsrepresent 4.2% of the entire market and are highlypopular in Switzerland and Germany.

■ Fund-linked products have been increasinglysuccessful in Europe. They represented 4.2% of theSIPs market with sales of €4.7 billion in 2005.Switzerland and Italy are the key markets. Theseproducts have all the advantages of mutual funds andmany others besides, as they can outperform directinvestment in funds through leverage and they alsoprovide capital protection and a good risk spread.

■ Lastly, exchange-rate linked products (FX-linked)have become popular for two main reasons. Firstbecause the FX market is one of the largest financialmarkets in the world and second, because the recentUS dollar depreciation has made more issuers awareof the effects of currency movements. Norway,Belgium and Italy are clear leaders in this specificsegment, which represents 3.1% of the total Europeanretail market. Demand for these products is expectedto grow in the future.

■ Equity-linked or index-linked SIPs accounted for61.3% of the total European retail market in 2005, withsales of €83.9 billion. They are the most popularproducts for retail investors in most Europeancountries and especially France, Switzerland,Germany, Belgium, Spain and Italy. These productshave recently seen some major innovations, with theemergence of new concepts such as “cliquetstructures” where the performance of the underlying(s)is locked-in on a periodic basis. Experts believe thatdemand for equity products will continue to grow in2006/2007.

■ Interest rate-linked products are used to leverageinterest rate swaps. They represented 16.5% of theEuropean market with sales of €22.6 billion in 2005.Switzerland accounts for almost half the Europeanmarket, followed by Belgium, Germany and Italy.Although these products take a significant share of themarket, demand was flat in 2005. This may be due tolow interest rates in the euro zone.

Breakdown of the European retail SIPsmarket by type of underlying in 2005

Equity linked(equities, basket of

equities,indices,basket of indices)

61.3%

Others 4.9%FX 3.1%

Fund 4.2%

Commodity 4.2%

Interest 16.5%

Inflation 5.8%



9

Regulatory environment

Regulations governing the retail SIPs market are fragmented and localized. There are no common objectivesbetween regulators in the various countries and efforts made so far have not had the desired result.

The three key issues are:

➧ Convergence of regulatory objectives at Europeanlevel;

➧ Country-specific differences in fiscal and tax policies;

➧ Compliance.

The market in each country is governed by the localregulatory authority, such as the Financial ServicesAuthority (FSA) in the UK and the Autorités deMarchés Financiers (AMF) in France.

The degree of regulation is different in each countrybut all of them aim to ensure that investors understandwhat they are investing in and that full disclosure ismade of the risks involved and returns offered.

Tax treatment of income from SIPs depends on thefiscal policies of the country concerned, which leads tobasic changes in the structure of the product itself.Compliance with various directives from national andinternational regulators is becoming more and morecomplex. It involves a series of direct and hidden costsfor product developers and distributors.

Achieving economies of scale becomes a hugechallenge, particularly for customized products. Thisfragmented regulation of the SIPs market has sloweddown cross-border competition while increasing thebarriers to entry.

Simplification of the rules and convergencebetween regulators will lead to uniform regulationsthroughout the European financial markets and willimprove market transparency. Numerous initiativeshave been taken to achieve this goal:

➧ The EU’s Passport Directive attempts to draw up acentral regulatory framework for the SIPs market atEuropean level. The deadline for achieving 100%compliance is 2007. The directive aims to permit theuse of a standard prospectus for marketing productsin another member country. It is expected to be oneof the major drivers of the retail SIPs market inEurope.

➧ The European Savings Tax Directive is aninformation-sharing agreement between membercountries. It ensures that savers and investors paythe correct tax on their savings income in theircountry of residence.

➧ Another initiative was the introduction of a newaccounting standard in January 2005. IAS 39requires providers to report the fair value of allderivative contracts associated with SIPs. The main goal of this initiative from the IAS Board isto improve market transparency.



Part 2 -SG CIB analysis

The second part of this report focuses on the European SIP retail market which includes mass retailinvestors and HNWIs. SG CIB tries to give the latest trends of this market excluding warrants and trackercertificates and going further into the study of capital guaranteed and yield-enhanced products.

SG CIB highlights global market trends by showcasing how the latest industry innovations allowedEuropean distributors to meet various client needs from the most conservative to the most dynamic ones.

About Société Générale Corporate & Investment Banking

Present in over 45 countries across Europe, the Americas and Asia, Société Générale Corporate &Investment Banking is a reference bank specialising in:

➧ Euro capital markets. A top ten player in debt and equity segments (bonds, securitisations, syndicatedloans, equity-linked and equity issues).

➧ Derivatives. Among the world leaders in equity derivatives and in many interest rate, credit, foreignexchange and commodities derivatives.

➧ Structured finance. A worldwide leader in export, project and structured commodity finance.

Combining innovation and quality of execution, Société Générale Corporate & Investment Bankingprovides corporates, financial institutions and investors with value-added integrated financial solutions.

www.sgcib.com

10 PART 2 - SG CIB ANALYSIS

11

Global overview 2006

Over the past year, equity market performance has had the most significant influence on trends inthe European retail structured products market. Structuring houses have also played a role inmodelling the SIPs market: product developers aim to provide products that can exploitopportunities identified in implied parameters (such as volatility, correlation, interest rates, dividendlevels, etc).

Unlike previous years, when volatility levels were much more significant (highs in 2003 and lows in2004-2005), there has been no clear trend in volatility over the past year. In this climate, structuringhouses have had to adapt their supply to customers’ profile. The risk aversion of retail investors isdirectly influenced by trends in the parameters they can easily identify. For them, the mostsignificant parameter is the trend in the underlying.

A study of trends in the European equity market reveals two types of investor approach, whichsimply bears out the fact that SIPs have become and will remain an inevitable component of allinvestment strategies.

Short-term memory investors focus on the most recent trends in equity market since 2003. As the markethas risen steadily in the past three years, their risk aversion has declined. They are all the more prepared totake greater risks to obtain higher returns through SIPs as interest rates levels are still disappointing. This hasled to three trends, studied here from the less risky investment solutions to those designed for more risk-averse profiles:

■ Renewed interest in products indexed to growth in the underlying;

■ Development of early redemption products;

■ Emergence of partially guaranteed products.

Long-term memory investors look at the longer term trends in underlyings such as the DJ EuroStoxx 50.Despite the bullish markets since 2003, they find it hard to forget the bubble burst and ensuing market declinefrom 2000 to 2003. These investors are afraid of potential future falls and they invest mainly in simple, fullcapital protection structures. However, new types of SIPs have recently emerged. They are designed forcustomers seeking to outperform current low interest rates and diversify their portfolios. These are threeoutstanding trends depicted here after on a growing scale of risk-aversion:

■ Development of the Click-Income concept;

■ Development of multi-asset class products;

■ Emergence of absolute return strategies.

In addition to the classic equity-linked structured products, new sources of diversification have come tolight this year. The ability of emerging markets, commodities, real estate or even new energies to outperformmore traditional underlyings is one of the main drivers of growth in demand.

■ Development of new underlyings.

PART 2 - SG CIB ANALYSIS

12

Market parameters

Trends in the DJ EuroStoxx 50 Since 2000, trends in the DJ EuroStoxx 50 have fallen into two distinct periods. FromJanuary 2000 to January 2003, the index fell bymore than 50% (1). Since then, it has regainedalmost 60% (2).

The healthy performance of the last three yearsis significant. This bullish momentum isencouraging and tends to reduce investors’ risk-aversion even though many still remember thesharp downturn of previous years.

0

1000

2000

3000

4000

5000

6000

Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06

1 2

Source: Bloomberg

Trends in the 10-year euro swap rate

Since 2000, the 10-year euro swap rate hasfallen substantially. Low interest rates are stilldisappointing in 2006 although the fundingenvironment has improved compared to lastyear.

3

3.5

4

4.5

5

5.5

6

6.5

Jan-00 Jan-02 Jan-04 Jan-06Source: Bloomberg

Trends in the DJ Eurostoxx 5010-year implied volatility

After peaking between mid-2002 and mid-2003,implied volatility in the equity market has fallensharply to reach record lows, especially in early2005. Since then, the evolution is flat.

0

5

10

15

20

25

30

Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06Source: SG Engineering


Global overview 2006

13

Renewed interest in products indexed to growth in the underlying

Given the bullish momentum in most asset classes, growth products have accounted for morethan 90% of issues since 2004. As regards the choice of underlying, equity or index-linkedproducts are the most popular. In 2005, they accounted for 85% of the total SIPs market inGermany, 90% in Spain and 98% in the United Kingdom.

Among the parameters that influence the choice of a structured product, retailnetworks try to combine the marketexpectations of their investors with impliedmarket parameters such as volatility of theunderlying.

Volatility levels

High Low

Bullish Call on worst Call

Call with local Call on multiModerate caps asset classes

basket

Combination of market outlook andvolatility levels to determine theoptimum investment strategy

Equitymarketoutlook

Most of the products issued in the past year havebeen indexed to growth in the underlying, whichmeans that investors’ expectations are broadlypositive. Thanks to lower implied volatility levels,vega plus products have indeed enjoyed huge growthsince 2003.

highly popular investment product in the UK,accounting for nearly 75% of total issues in 2006(compared to 55% in 2004).

Of course, depending on specific market views, thereis still some room for volatility selling products.For instance, calls with local caps are the best solutionfor investors confident on the long run but alsoconsidering that growth could not reach the sky. Thistype of product combined with another performanceengine capable of generating return even in case ofstability is one of the most important innovation of theBelgian market in 2006 known under Opus payoff.

Two prime examples are the successful Serena Lift Upand Serena Upgrade sold by AXA. They bet on asteady rise in the equity market and are indexed to theworst performing stock in a pre-determined equitybasket. In the first two years, a fixed coupon of 6% ispaid out. After that, the annual coupon depends onthe performance of the equity basket compared to itsinitial value. On each reference date, its value iscalculated as the arithmetical average of the prices ofeach of its 20 constituent stocks. For each stock, thepercentage increase is capped at 10% and itsperformance cannot be lower than 150% of theperformance of the worst-performing stock. If theperformance is negative, no coupon is paid.

Trends in the proportion of vega + and vega -in structured retail products issued in France

0%10%20%30%40%50%60%70%80%90%

100%

2003

Proportion Volatility levels

2004 2005 2006

Vega + Vega -

0

5

10

15

20

25

30

Growth in vega plus products is also evidenced bythe large proportion of uncapped calls across Europe.One of every three issues in 2005 involved thesestructures, which rose by 22% over the previous year.The figures are even more impressive in the UK. Forthe past few years, uncapped calls have become a

Focus on short-term memory investors


Source: SG Marketing

14

Development of early redemption products

Some investors expect the equity market to rise in the next few years. They are keen to investin a market that has enjoyed strong growth in the last three years but are still seeking moresecurity. They are looking for capital guaranteed structures and are mainly confident in short-term investments.

In 2003, volatility levels were so high that they could be used as additional resources to designshort maturity products. The situation may differ today. It is hard for structuring houses tooffer short maturity products in current market conditions, that is low interest rates combinedwith low volatility.

Early-redemption products could well be the best compromise as they combine capitalprotection with the opportunity offered by shorter maturity products.

The table below shows some examples of products launched in the first half of 2006 which illustrate thedevelopment of early-redemption payouts in Europe. These products are all the more important in that they areamong the five top selling products in their respective countries.

We should also consider the fact that the maturity of SIPs might also be influenced by the regulatory issuesspecific to each European country. For example, most products in Belgium are long-term investments as there is nowithholding tax on products with a maturity above eight years.

Usually, early-redemption products are distributed by large networks that provide a complete range of products.

Country Product Name Distributor Volume Initial Maturity Underlying Early Redemption condition (m€) Strike

Belgium Protected Obli-Fix ING 230 29/03/06 3 to 5 years Euribor The product terminates early if the Target Eur sum of the coupons reaches 15%.

France Tonga 2 BNP Paribas 430 7/04/06 2 or 4 years S&P500, If after two years, all the indices in theNikkei225, basket are at or above their initial DJ Eurostoxx50 levels, then the product matures early.

Netherlands Klik en Klaar Note ABN AMRO 100 3/02/06 1 to 4 years DJ Eurostoxx50, If after 1, 2 or 3 years both indices Bank AEX have risen compared to their initial

level, the product matures early.

Spain Depósito BBVA 400 31/05/06 1 or 2 years Share basket If all stocks record positive growthObjetivo 1 and 2 since inception at any of the four

bi-annual observation dates, investorsreceive a 2.95% coupon. The productterminates if the above conditionis met on two semesters.



15

Development of partial protection products

Although capital guaranteed products dominate the European markets, a growing number ofinvestors are prepared to take greater risks for the following reasons:

■ The sharp rise in the equity market over the last three years is encouraging and reducestheir natural risk aversion. This has led to the emergence of retail structured products thatare not 100% capital protected, a real “revolution” in some traditionally conservative retailnetworks (like France, Belgium, Italy and Spain).

■ Low interest rates have been disappointing for investors with a preference for moreconventional products. This drives them to seek higher returns, which they have found inSIPs. Hence the development of products delivering high fixed coupons but with no capitalprotection in compensation.

Focus on mass retail markets

There were more partial protection products issuedin the European retail markets in 2006 than in previousyears. This segment has grown by 14% since 2004.

For example, several traditional retail networks decidedto launch partial protection products on the Frenchmarket, including Société Générale with Murano Plus(90% capital protection), BNP Paribas with PromesseaProtection (95%) and LCL with Practis (95%).

Focus on IFAs and HNWIs

There has also been strong growth in specific incomeproducts in Switzerland, Belgium and France,designed exclusively for sale through localintermediaries.

These high income products were launched inseveral markets in 2005/2006. This was particularlythe case in France, with the specific product rangecalled Optimiz, which is sold through Adequity, abrand devoted to IFAs since 2001. As of end ofNovember 2006, Optimiz had more than €750 millionin assets.

One of Adequity’s latest best selling product was“Optimiz Premium” which was issued at the beginningof 2005. Optimiz Premium pays a annual fixed couponof 7.5% in the first three years. In the next five years,the coupon is linked to the average performance of the20 worst performing stocks (reference basket). Thecapital return at maturity is 100% provided thereference basket’s performance is positive. However, ifon any of last five annual coupon calculation dates thereference basket performance is positive then eachfollowing annual coupon is automatically 7.5%. In thiscase, the capital return at maturity is also 100%.

In addition to Adequity’s Optimiz by SGCIB, BNPParibas has also launched the Privalto range whileExane offers the same typology of products to theFrench IFA’s.

Trends in the proportion of guaranteedand non-guaranteed products

in the French retail SIPs market

0%10%20%30%40%50%60%70%80%90%

100%

Partially guaranteedproducts

Fully guaranteedproducts or more

Jan-Aug 2004 Jan-Aug 2005 Jan-Aug 2006



Source: SG Marketing

16

Development of the Click-Income concept

Since the stock markets collapse in 2001, risk-averse retail investors have not been keen tomove back into the equity market. Since then, they have invested massively in fixed-incomeinstruments. However, due to the fall in interest rates, returns on bonds, insurance life policyor defined benefit plans are now very low and hardly more than the rate of inflation. Manyretail investors are so seeking new investment products that offer higher incomes but still witha reasonably low level of risk.

Structuring houses have to find a compromise between capital protection and potential return.This led to the construction of equity-linked products that can be converted into a high-yield,fixed-income investment.

Risk-averse investors do not mind taking some equityrisk for a while, but as soon as they have securedsome profits, they prefer to lock into a saferinvestment.

Click-Income is a unique concept that starts with anexposure to the equity market but aims at beingconverted into a high-income bond. The initialexposure to the equity market is used to generate highfuture coupons. The optional mechanism is consideredas an alternative to reverse convertibles; as soon as thevalue of the underlying equity basket is over a givenvalue (say 70% of its initial value) on any of the referencedates, the product is converted into a high-yield bond(say 8% per year) with capital guaranteed at maturity.

Last year, one of the most successful Clik-Incomeproduct was launched by Santander Central Hispano.The Doble Oportunidad issue is one of the best sellingproduct in Spain with almost 1.5 trillion euros. This 4-year investment guarantees 100% of the initial capital.If the DJ Eurostoxx 50 growth over this period is above18%, investors can either cash in their investment with70% of index growth, or receive 70% of index growthand extend the term for another 3 years, gettingadditional annual coupons of 4%, 5% and 6%. If indexgrowth after four years is less than 18%, the maturity isextended 3 years, and payoff becomes: 100% of initialcapital plus 70% of index growth over the product life.

Since 2005, such Click-Income structures have alsobeen successfully launched in several markets such asBelgium, Italy, Switzerland and France.

Another successful and elaborate Click-Incomeproduct was also developed this year for customersunwilling to miss any future movements in theequity markets.

The product, called Alpha, is based on an initialexposure to the equity markets but converts into aannual coupon product if the markets rise. Its keyinnovative feature lies into the annual couponcomponent, which pays the higher of a fixed couponor the rise in the equity market.

A typical Alpha has a 6-year investment horizon, 100%capital guarantee at maturity and a variable annualcoupon linked to the performance of a basket ofstocks. The annual coupon is the arithmetical averageof each stock’s performance since inception, withperformances capped at +10% and floored at –50%.As soon as the sum of the coupons paid is higher orequal to +25%, each year thereafter until maturityinvestors receive the higher of 8% or the absolutevalue of the reference basket’s annual performance.

In France, for example, this concept was introducedby Barclays, which launched the V8 product at thebeginning of 2006.

Focus on long-term memory investors


17


Development of multi-asset class products

In 2006, investors were still shaken by the low levels of returns across most asset classes inthe past years, and were seeking solutions providing higher returns. In response, structuringhouses have enhanced their existing multi-asset class products.

More and more SIPs are not only linked to conventional assets such as equities, indices,interest rates or foreign exchange, but also to other asset classes such as commodities,property, inflation, mutual funds or alternative strategies. Multi-asset class structuredproducts offer an appropriate solution for risk-averse customers: one investment transactionprovides them with diversification and complementary profiles.

Cross-asset products have been hugely successfulin the past years as they allow investors to gainexposure to more asset classes than usual (equities,interest rates, gold prices, currencies, commodities,precious metals) in a single transaction.

Because of the product’s exposure to several economiccycles, it is easier to generate performance even if theequity market is bearish. The graph below shows theperformance of four indices often used to structuremulti-asset class products.

The Amarante concept is the best example of a multi-asset class product. It combines diversification andan exposure to the best performing profile so thatinvestors do not have to make any choice beforeinvesting. Through Amarante, investors can benefit fromglobal exposure to various asset classes, for exampleequity markets (Europe, US, Japan, UK, China), fixed-income, real estate and commodities. Each year theyreceive the performance of the best of threecomplementary profiles: Dynamic (bigger proportion ofequities), Balanced (mix between the four asset classes)and Conservative (bigger proportion of fixed-income). The “cliquet” mechanism locks in performance overtime, protecting investors from market downturns andoffering better visibility on future gains.

For instance, the Deka-KickGarant 2006 distributed byDeutsche Sparkassen- und Giroverband in Germany islinked to the performance of three funds comprisingshares, commodities and bonds. At maturity the productoffers 100% capital back plus the average performance ofthe best performing fund measured on quarterly referencedates. This product was a huge success and collectedmore than €560 million in 2006.

This type of multi-asset product has been andcontinues to be a great success in Belgium, France,Germany, Italy, Portugal, Hungary and Spain, raising anominal amount of about €2 billion on the first threequarters of 2006.

Moreover because diversification decreases theoverall volatility of the portfolio, cost of protectiontends to be lower, enabling structuring houses todesign payouts with higher participation rates.

Trends in performance of the DJ EuroStoxx 50,the EPRA, the Euro-Mts Global Index and

the DJAIG Commodity Index

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

2000 2001 2002 2003 2004 2005 2006

EPRA Index DJ EuroStoxx 50 IndexEuro MTS Global Index DJAIG Commodity Index

Source: Bloomberg


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Emergence of absolute return strategies

The recent success of absolute return strategies is due to the increasing difficulty in anticipating equitymarket trends. After a continuous rise in the equity markets over the last three years, risk averseinvestors are seeking “absolute return” investments which can deliver returns even in bear markets.

Investors who are less confident in the equity markets are then enticed into diversifying their portfoliowith alternative investment products. However, the alternative investment markets are highlyregulated in most European countries and therefore relatively inaccessible for retail investors. Equity-linked SIPs are an easier way to provide investors with strategy-linked products.

Future demand for these absolute returns strategies is expected to grow in 2006-2007.

New products based on an innovative absolute returnapproach have been created to capitalize onexpected erratic movements in the equitymarkets. Returns are generated in bear as well as bullmarkets.

To meet investor needs, a wide range of absolutereturn products have been launched, with differentinvestment strategies and return expectations. Despitethese differences, absolute return products typicallyoffer a low correlation with conventional asset classes,providing diversification and the potential to generatepositive returns, regardless of market conditions.

The Palladium concept is probably the best exampleof an absolute return strategy. This dispersion strategyworks like an investment in a long-short equity hedgefund where the customer is systematically long on thebest performing shares and short on the worstperforming shares, relative to the average performanceof the basket.

The Palladium has been welcome by the privatebanking market in Switzerland. On a more generallevel, the concept has been very popular this yearamong institutional investors all over Europe.

This kind of payoff has also known great success inthe retail networks. In Italy for example, the Sigma2008 distributed through Banca della Rete is an

example of a Palladium structure. It is a product linkedto a basket of 20 stocks. At the end of the first year,the product offers a 4% coupon. Every year thereafter,the performance of each stock in the basket sinceinception is calculated to determine the averagebasket performance. The deviation of each stock fromthe average basket performance is then calculated andthe annual deviation of the basket is the average ofthose values. At maturity the product offers the higherof 80% of the capital invested or 300% of the highestannual deviation recorded over the investment period.

Absolute return strategies can be offered throughstructured products or directly negotiated on thestock exchange like the Twin Win Certificate recentlylaunched in Italy. This product is linked to the DJEuroStoxx 50. After five years, at maturity, if theunderlying has risen compared to its start level, theproduct offers a minimum capital return of 100% plusa 120% participation rate in the underlying’sperformance over the investment period. If theunderlying has fallen compared to its start level andhas not fallen by 40% or more at any time during theinvestment period, the investor receives a capitalreturn plus the index performance taken as anabsolute value. Otherwise, the investor receives acapital return less 1% for every 1% fall in theunderlying.



19

Development of new underlyings

Over the past few months, keen demand for exotic underlyings has been identified. Erraticmovements in asset classes such as emerging markets or energy have generated investmentopportunities. New underlyings have become a key driver in the SIPs market. They used to bethe preserve of private banking networks but are now becoming more and more popular onthe retail scene.

The difficulty is that there is no exchange for some exotic products. In other words, thechallenge is to convert investment ideas into viable financial underlyings. These underlyingsmust be representative, affordable (i.e. investable whatever the amount) and liquid – featuresthat have to be secured over time.

In 2006, new underlyings were a hot topicstimulated by investors’ increasing expectations. Theoutperformance of new underlyings over the moreconventional ones provided a real incentive to launchnew asset-linked products.

bio-energy – developments that were unthinkable afew months ago.

...to more refined structured solutionsGiven their high volatility levels, growth in exotic assetsmay be accompanied by the development of structuresthat are 100% or more capital protected. The “Vol Cap” concept aims to limit product exposureto the underlying when it becomes too volatile. Theidea is therefore to limit volatility while providing partialprotection from falling markets.An example of this is the Best Emerging Note, whichoffers investors the opportunity to fully benefit fromgrowth expectations in five promising geographicalareas: Eastern Europe, China, India, South Korea andLatin America. It provides investors with exposurethrough the Lyxor Emerging Dynamic Fund whilstproviding 90% capital protection and allocationadjustment. The fund comprises a range of mutualfunds and uses two mechanisms: dynamic allocationand systematic risk monitoring, i.e. Vol Cap. This tendsto optimize exposure to emerging markets (up to150%) through volatility monitoring.

Similar products have been distributed mainly viaprivate banking networks right across Europe. InSwitzerland, for example, a specific product providesaccess to the GCC equity markets (Gulf CooperationCouncil, i.e. Saudi Arabia, Kuwait, UAE, Qatar, Bahrainand Oman).

Broadly-speaking, the actual exotic component of astructured product lies either in its payout profile orin its own underlying asset.

Over the past year, many new underlyings have seenthe light of day.

From tracker certificates…For example Société Générale offers certificates suchas Solex in solar energy, Wowax in water and Biox in

250

200

150

100

50

0jan-00 jan-02 jan-04 jan-06

DJAIG Index MXEF Index DJ EuroStoxx50

Focus on one-off investments

Trends in the DJAIG Commodity Index, MSCI Emerging Index and DJ EuroStoxx 50

Source: Bloomberg Base 100 = 3 Jan 2000


Glossary

A Structured Investment Product (SIP) is a fixed-term instrument that offers a unique risk/returnprofile in an investment portfolio. It is “structured” to meet any investor’s financial needs as theexact levels of risk and return are known in advance.

The capital is invested in at least two components to provide both capital protection andreturn.

➧ Most of the capital is used to buy a zero-coupon bond; ➧ The rest is invested in another riskier asset (the derivative component) to provide the income or

growth component.

We can identify the main factors that influence the price of any SIP. ➧ Price of the underlying itself (indices, equities, interest rates, commodities); ➧ Strike price, which is the exercise price at which the investor can buy or sell the underlying asset;➧ Time to maturity; ➧ Volatility, which is closely linked to the time value;➧ Currency fluctuations when the product is quoted in a different currency from the underlying.

A number of secondary factors can also influence prices, such as inflation, competition and the totalexpense ratio, which is the ratio between the total cost of issuing and managing an SIP and its sellingprice.

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■ Alpha: A product based on an initial exposure to theequity markets that converts into a high incomeproduct if the underlying rises. The annual couponpays the higher of a fixed coupon or the absoluteperformance of the basket.

■ Altiplano: An Altiplano offers investors a fixedpayout at the end of the product’s life on thecondition that none of the assets that make up theunderlying basket have decreased below a givenlevel. If the level is breached, the product pays acapital guarantee plus participation in the growth ofthe total underlying basket.

■ Amarante: A capital-guaranteed multi-underlyingproduct. Three fund allocations correspond to threeinvestment profiles: secure, balanced and dynamic.The yearly rolling average performance (since launch)is calculated for each profile. At maturity the investorreceives 100% of the capital invested plus the bestof this yearly rolling average performance.

■ American option: An option that can be exercisedat any time prior to expiration (as opposed to aEuropean option which can only be exercised onexpiration).

■ Annapurna: An option which gives the holder apayout equal to the greater of a capital guaranteeplus a fixed coupon and a participation in theperformance of the underlying basket. The fixedcoupon level and the performance participation ratedepend on whether and when the worst-performingstock breaches a downside barrier. The later thebreach, the higher the fixed coupon andperformance participation rate.

■ Asian call: An option whose payout depends on theaverage price of the underlying asset over a certainperiod of time as opposed to its price at maturity.Also known as an average option.

■ Astaris: A combination of an option on CPPIdesigned to offer enhanced exposure to one orseveral underlyings and a zero coupon to offer full orpartial capital protection at maturity. The optionunderlying is a dedicated fund with a CPPImanagement, which actively allocates between "riskyassets“ and "risk-free assets”.

■ Athena: A callable option where the investorreceives his capital invested plus a pre-determinedperformance, if the underlying performance ispositive (or reaches a barrier) at one of theobservation dates. Else, the investor receives thevalue of the underlying at maturity.

■ Barrier options: Also known as knock-out, knock-inor trigger options. Option contracts with triggerpoints that, when breached, automatically generatethe buying or selling of other options. Barrier optionsinclude:

➧ Down-and-out call/put: An option that expiresworthless if the market price of the underlyingsecurity drops below a pre-determined price,

➧ Down-and-in call/put: An option which becomeseffective if the market price of the underlying securitydrops below a pre-determined price,

➧ Up-and-out call/put: An option that expires worthlessif the market price of the underlying security risesabove a pre-determined price,

➧ Up-and-in call/put: An option that becomes effectiveif the market price of the underlying security risesabove a predetermined price.

■ Black & Scholes formula: An equation for valuingplain vanilla options developed by Fischer Black andMyron Scholes in 1973 for which they shared theNobel Prize in Economics. It offers a solution topricing European-style options on assets with interimcash payouts over the life of the option. The modelcalculates the theoretical or fair value for the optionby constructing an instantaneously riskless hedge,that is, a hedge whose performance is the mirrorimage of the option payout.

Glossary

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■ Best of option: An option which pays out on thebest performing of a number of underlying assetsover an agreed period of time.

■ Call: A call option is a financial contract giving theowner the right (but not the obligation) to buy a pre-set amount of the underlying financial instrument at apre-set price with a pre-set maturity date.

■ Capital-protected: A structured product thatprovides capital protection offers an amount that atleast matches a given proportion of the investor’soriginal capital input at maturity. Can also be referredto as principal-protected.

■ Click-Income: A concept that starts with exposureto the equity market but aims at being converted intoa high-income bond. As soon as the value of theunderlying is over a given value on any of thereference dates, the product is converted into a high-yield bond with capital guaranteed at maturity.

■ Cliquet: Cliquet structures, which can also be calledratchet structures, periodically settle and reset theirstrike prices, allowing users to lock-in potentialprofits on the underlying.

■ CPPI: A fund management technique that aims toprovide maximum exposure to risky assets while stillprotecting investors’ capital. The technique requiresthe manager to dynamically rebalance the portfoliobetween risky assets (such as equities) and safeassets (such as bonds) according to a quantitativemodel. The level of risky assets is managed suchthat at all times, in the event of a market crash, theremaining NAV of the fund is still sufficient to meetthe stated protection level. Generally the proportionof Risky Assets in the fund is increased when theseperform well and decreased when these performpoorly. The capital protection level may be fixed, orrachet up (reset) according to a certain percentage ofthe fund NAV achieved during the fund term.

■ Delta: The change in price of a call option for everyone-point move in the price of the underlyingsecurity. Also called hedge ratio.

■ Derivative: A derivative instrument or product is onewhose value changes with changes in one or moreunderlying market variables, such as equity orcommodity prices, interest rates or foreign exchangerates. Basic derivatives include: forwards, futures,swaps, options, warrants and convertible bonds.

■ Digital: An option with a payout function that hastwo possible outcomes: a set payout or nothing atall. Also known as binary or all-or-nothing options.

■ Emerald: A multi-underlying capital guaranteedproduct. At a determined frequency, the performanceof the best performing underlyings is crystallized.In addition to that and at the same frequency, theEmerald Basket performance (composed ofcrystallized underlyings) is calculated. At maturity,the investor receives its capital invested plus apredetermined value of the highest performance ofthe Emerald Basket.

■ European option: An option that can only beexercised on the expiration date (as opposed toAmerican option which can be exercised at any timeprior to expiration).

■ Everest: A capital guaranteed structure typicallyoffering the investor the sum invested at maturityplus the potential upside linked to the performanceof the worst-performing asset in a pre-definedbasket. The Everest structure may also pay couponsover its life.

■ Gamma: The rate of change of the delta withrespect to changes in the underlying price.

Glossary

23

■ Growth products: A term used to describe a typeof structured product whose payouts are only madeat maturity with no income stream during the productlife. A growth product can be either principalguaranteed or non-guaranteed, although the formeris common.

■ Himalaya: A multi-underlying product. At a givenfrequency, the level of the best performing underlyingis locked-in until the end. At maturity, the investorreceives his capital invested plus the average of thelocked-in performances.

■ Hybrid products: Hybrid products are constructedfrom a combination of interest rate, commodity,equity, credit and currency derivatives.

■ Implied volatility: The value of volatility embeddedin an option price. All things being equal, higherimplied volatility will lead to higher vanilla optionprices and vice versa. The effect of changes involatility on an option’s price is known as vega. If anoption’s premium is known, its implied volatility canbe derived by inputting all the known factors into anoption pricing model (the current price of theunderlying, interest rates, the time to maturity andthe strike price). The model will then calculate thevolatility assumed in the option price, which will bethe market’s best estimate of the future volatility ofthe underlying.

■ Jade: A capital-guaranteed option indexed to abasket of underlyings. At maturity, the investorreceives the initial capital invested plus theperformance of the Jade basket, which is calculatedby taking the same pre-determined performance forall rising underlyings and the final performance of allunderlyings that have dropped below their initial priceat maturity.

■ Kilimanjaro: An enhanced reverse convertibleincluding a capital protection. The investor receives afixed annual coupon if no stock has breached thelimit on any predetermined observation date.

■ Lookback option: An option which gives theinvestor the right to exercise the option at expirationat the most favourable rate or price reached by theunderlying over the life of the option.

■ Option: A contract that gives the purchaser theright, but not the obligation, to buy or sell anunderlying at a certain price (the exercise, or strikeprice) on or before an agreed date (the exerciseperiod).

■ Opus: A product which gives the investor atmaturity, the capital invested plus the performance ofthe Opus portfolio. The value of this portfolio iscalculated as the arithmetical average of the prices ofthe stocks. For each stock, the final price used in thecalculation may be up to a predeterminedpercentage of the initial price and may not be lessthan the same percentage multiplied by the price ofthe worst-performing stock. If negative, theperformance will be deemed nil.

■ Palladium: This dispersion strategy works like aninvestment in a long-short equity hedge fund wherethe customer is systematically long on the bestperforming shares and short on the worst performingshares, relative to the average performance of thebasket.

■ Put: A put option is a financial contract giving theowner the right (but not the obligation) to sell a pre-set amount of the underlying financial instrument at apre-set price with a pre-set maturity date.

Glossary

24

■ Rainbow option: It is an option with a payout linkedto two or more underlying instruments or indexes.Some common types of rainbow options are themaximum option, minimum option, best-of optionand worst-of option. The underlyings are of the sameasset class and can have different expiry dates andstrike prices, but for the option to payout, all theunderlyings must move in the direction that isfavourable to the option holder. However, if theoption combines two or more types of asset classes,such as a stock index and an exchange rate, it iscalled a hybrid option.

■ Range Accrual: An option that pays out a couponproportional to the number of days during which theunderlying remained in a pre-set range.

■ Reverse Convertible: These are just like convertiblebonds. The main difference is that rather than buyinga call option on a stock, the investor sells a put onthe stock or index. The investor receives higher thannormal coupons but may lose some principal if theput ends up in the money.

■ Short Path: An investment which includesguaranteed coupons the first years. The followingyears, the investor receives a variable coupon linkedto the performance of a basket of worst. Theinvestment matures when the sum of the couponspaid reaches a pre-determined level. Else theinvestor receives the value of the basket of worst atmaturity.

■ Straddle: An option which at maturity pays out theabsolute performance of the underlying.

■ Swing: A short term investment including a 100%capital guarantee, combined with an exposure to thelowest absolute performance of a basket ofunderlyings.

■ Theta: This measures the effect on an option’s priceof a one-day decrease in the time to expiration.

■ Trigger: Many path-dependent options havepayouts that depend on the underlying asset orindex or coupons paid/payable reaching a specifiedlevel before the expiry date. This level is the trigger.Some options have more than one trigger level, inwhich case the payouts are conditional or increasewith the number of triggers activated or the order inwhich they are activated.

■ Vega: Measures the change in an option’s pricecaused by changes in volatility.

Glossary

Société Générale Corporate & Investment Banking17 cours Valmy92987 Paris La Défensewww.sgcib.com

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the european retail structured investment products market

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