Rothschild's structured guru takes a fresh look at risk

Wealth managers should be using structured products to move risks from the edge of the portfolio towards the centre, according to Kieron Launder, head of strategic advisory services at Rothschild Private Banking and Trust.

Launder, one of the most respected structured product portfolio constructors in the country, argues that managers should shift from a mindset that focuses on controlling tail risk – the probability that a rare event will significantly and adversely affect the value of the portfolio – to centralising tail returns as the markets near normalisation.

Historically, wealth managers have used structured products to control tail risk but Launder believes they ought to start thinking about shifting risk in the portfolio to trade tail returns for increased probable returns.

He explains: ‘It’s more about centralising tail return as oppose to eliminating tail risk. As we’ve had a bounce back to more normalised valuations, it’s probably a good time to put a framework over the portfolio in terms of moving risk around from the tails towards the centre in terms of outcomes.

Launder’s observation is based on the notion that investing is more about outcomes then probability.

He says: ‘If you are thinking about distribution, you need to think what is the outcome and the probability
of that outcome.

Portfolio flexibility

With this in mind, he believes that maintaining portfolio flexibility while also sticking to a view – despite the unsettling nature of quarterly movements in the derivative pricing of the structured products – is vital.

He says structured products encourage investors to be more explicit about their views and points out that the major equity indices – including the FTSE, which is hovering around 5300 points – may have stabilised  after a strong recovery in 2009.

‘With low interest rates and implied volatility still quite high, most structured products will still include soft protection. You are not reducing that tail risk but you are shifting the right tail return. Mathematically it is a tail risk but it’s a positive return on the upside,’ he says.