Investment & Private Banking - Essay Example

In this era, corporate issuers search for any form of low-cost funds and then use the derivatives market to alter those claims in a risk profile that cater the financing needs of the corporation (Bethel & Ferrell, 2006). The increased use of derivatives has given sophisticated institutional investors a way to attain risk exposures that they desire and the ability to manage their existing risk exposures in a dynamically cost-effective way. Derivatives are increasingly becoming more and more accepted in the financial markets with competitive prices and margins.

But the margins earned by the institutions are declining and thus they have began to engineer more complex securities known as structured products. As the derivatives became more advanced, corporate as well as private investors wanted to protect their downside as well as upside participation in the bear market and bull market respectively. This paved the way for a new kind of derivatives called the structured investment products or structured finance products (Bethel & Ferrell, 2006). Structured products have no exact definition in the business or in the regulatory framework.

Definition used by SEC, NASD and NYSE for structured products is that it is an instrument or security that is derived from another security, index, commodity or basket of commodities (Bethel & Ferrell, 2006). This is a broad definition that includes a wide range of products such as equity linked, collateralized debt obligations, credit-default swaps, commodity-linked debt and reverse convertibles. For this reason, according to Hens & Reiger (2009) structured products are also called equity linked or index linked notes that combine one or more assets such as stocks or bonds with a derivative providing a bundle that have specific characteristics for different investors like participation and protection of capital.