Asset Management

Equity Derivatives, FX To Grow In Chase For Returns, Say Consultants

Tom Burroughes Editor London 7 November 2008

Equity Derivatives, FX To Grow In Chase For Returns, Say Consultants

The use of equity derivatives will rise as an alternative to holding physical shares so that investors can cheaply capture any stock market rebound, while the foreign exchange market is set to expand, providing much-needed sources of returns, according to a report by a New York consultancy.

As the US economy could not be expected to recover in the next few quarters, investors may prefer to manage equity exposure via option contracts, according to “Market Updates and Investment Trends: "Where the Money Is Going,” by Celent.

Meanwhile, the use of complex structured products – which have come under scrutiny in the financial crisis – is likely to be limited, it said.

“Liquidity and risk premium were significantly undervalued leading up to the crisis. Liquidity has been taken for granted. That cannot be the case any longer. Investors will demand an appropriate premium for illiquidity,” the report said.

As for bonds, economic weakness will keep corporate bond prices under pressure, ensuring that yield spreads between US Treasuries and corporate debt remains high. Meanwhile, structured credit and securitisation markets will shrink in size although remain significant asset classes.

Celent said it was optimistic for the growth of foreign exchange market, although forex will not be able to expand at the high rates of recent years because the number of professional market players is shrinking. However, private retail investors are moving into the market.

The consultancy said it was bullish in the long run about emerging market equities despite current bleak market conditions.

It also expects investors to continue demanding new assets with low correlation to equities and other assets. Niche assets, such as freight, microfinance, longevity, and reverse mortgages, will be bought by natural participants, hedgers, hedge funds, and a subset of institutions looking for diversification.

“The retail investor segment (especially the mass retail or middle class in many of the emerging markets) is certain to grow in importance, sophistication, and demand,” the report said.

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