SPA's Keith Styrcula sees new opportunities in distribution, regulatory developments in 2010

By Emma Trincal

New York, March 24 - This week's annual conference of the Structured Products Association aims "to raise the sea-level for structured investments" and to shed some light on an investment class that has remained "Wall Street's best kept secret," according to Keith Styrcula, chairman of the Structured Products Association.

And as part of an ongoing dialogue with regulators, Styrcula invited the chief of the new Structured Products division at the Securities and Exchange Commission to speak in a special session, Styrcula told Prospect News in an interview a few days before the March 25 event.

The conference, Styrcula added, is also an "excellent opportunity for new business to get done" and for mainstream investors and advisers to get a crash course on structured investments.

Traders' talk

Prospect News: Early in the day is a panel called The View from the Trading Floor: Business Plans for 2010, moderated by New York Stock Exchange's Tom Haines. Is this a new panel?

Keith Styrcula: Yes. The panel is meant to provide a series of blueprints for how certain players are conducting their business lines in 2010.

Certain products have made a terrific comeback, for instance autocallables, reverse convertibles, principal protected notes - and despite all the dire negativity that some in the financial press have put out there about credit risk, investors seem to have shaken this off. So, where does the industry go from here? We're asking some of the top players to provide us with their insights.

Regulatory update

Prospect News: There will also be a regulatory update panel. Are recent developments a positive for the industry?

Keith Styrcula: It's exceptionally important for everyone in the business to have a "best practices" approach to marketing structured products. We know that Finra is looking carefully at structured products this year in examinations - reverse convertibles and principal protected notes will receive enhanced scrutiny this year in routine member firm examinations.

Many of us believe this is a healthy thing - as the business matures and penetration becomes more widespread, naturally the regulators are going to pay closer attention to sales practices and suitability.

Our view is that structured products are highly suitable investments generally speaking, especially when we consider risk-minimizing strategies. There may be complexity beneath the hood of certain strategies, but how they perform under certain market conditions is generally predictable and well-articulated in the prospectus.

SEC VIP guest

Prospect News: You've invited Kenneth Lench, the chief of the new Structured Products division at the SEC, for a one-on-one. Can you tell us about this session?

Keith Styrcula: We've only had some preliminary conversations, and I believe Kenneth is still staffing up and assessing what his mandate will be. We're under the impression that it will focus a bit on collateralized mortgage obligations, but it's clear that market-linked structured products will absolutely be on his radar scope.

We're pleased that his first communication to the industry will be at the SPA-2010 event, and our attendees are keen to hear him speak.

ETN land

Prospect News: Let's talk about exchange-traded notes. The SEC just approved the trading and listing of options ETNs on the Chicago Board Options Exchange. What's the impact of this recent development for the business?

Keith Styrcula: Interestingly enough, the SEC just came out with a statement in which they indicated they were working on a new rule that would make it more difficult for exchange-traded funds to have underlying strategies that are illiquid or esoteric. In part, there's a concern about the widening of bid-ask spreads in ETFs, which spiked up significantly in 2009.

The ETN market is still in its infancy, dominated by Barclays, Deutsche Bank and the JPMorgan ETN. But ETNs provide huge advantages over ETFs, in terms of no tracking error, transparency, accessibility of illiquid markets, and speed to market.

Candidly, aside from Barclays and DB, many of the firms are simply held up in the new business approval process, and it takes a year or so just for new firms to get to market. That will change. There's too much opportunity in ETNs to let bureaucracy get in the way.

Convergence debate

Prospect News: The convergence of fund management and structured products is one of your favorite themes. A panel will be dedicated to this important topic. Can you share some of your thoughts on this?

Keith Styrcula: Some observers continue to marginalize structured investments as specialty products that are pushed on retail investors because of "high fees."

The reality is that most structured products charge a fraction of the annual fees that are charged by mutual funds, [Unit Investment Trusts] and closed-end funds.

In fact, one of the reasons there haven't been more structured products sold through asset management channels is because the wholesalers can't get paid what they're used to in the mutual fund world. I shake my head when I read some of the reporting on the allegedly "high fees" embedded in structured products or secret fees.

Nonetheless, firms such as PowerShares, DWS Investments and First Trust have been first-movers of combining mutual fund wholesaling platforms with structured products offerings. It's such an obvious synergy, and we see many 1940 Act firms kicking the tires but are uncertain how to approach it.

We're trying to provide that clarity and to develop working relationships between the two industries.

Open architecture

Prospect News: How about open architecture and new distribution issues? Are we seeing new trends that could be of interest to investors and brokers alike?

Keith Styrcula: Open architecture is important for the long-term viability of the industry, and now, following Lehman's default, it's critical. The trend now is to have Eksportfinans or SEK issue a structured note, with the economics of the swap back-to-back with the structuring firm - selling into its own distribution.

That helps in the concentration element of credit risk - you're diversifying your clients' portfolios with a credit other than your own - but there is a need for different issuers of structured products to be approved on internal platforms. Not just for best pricing or credit risk, but because innovative ideas come from such platforms. There has been a significant movement, for example, at UBS and JPMorgan's private bank to open up the channels to others, and that benefits everyone.

Esoteric myths

Prospect News: How do you respond to critics who say that structured products are too complex to be beneficial to small investors? Tell us about the simplicity versus complexity debate.

Keith Styrcula: A major misconception of structured investments is that the financial engineers create complexity just to hide fees from clients.

It's quite apparent that products with too much complexity will not sell to a broad based market, particularly when financial intermediaries are calling for a "back-to-basics" strategy of good ol' asset allocation of equities and bonds.

This is a short sighted analysis, though, because if there's anything we've learned from the last two market breaks - the dot-com meltdown and last year's credit crisis - it's that everything is now correlated. When people pull money out of the market, it comes out of all asset classes simultaneously, and there's no safe harbor.

Structured products is a game-changer. Now you can dial out the risks you don't want in your portfolio, add principal protection, get above-market yields by taking a certain view. It's all fine and good for some financial intermediaries to call for simplicity; it sounds good on paper, but the 15% of RIAs who have come to know the structured products market consider this to be their secret weapon to enhancing and protecting their clients' investment performance.

Prospect News: Thank you very much, Keith.

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