Seeking Active Returns - A Study of Restructing Strategies for Equity Index-Linked Notes

Abstract

Aim and purpose: The aim of the study is to examine whether an active strategy for restructuring of equity index-linked notes can generate higher returns than a passive ‘buy-and-hold’ strategy. More specifically, the purpose of the study is to examine how an active restructuring strategy, using specific variables to govern market timing, for equity index-linked notes may affect the returns over a given time period, compared with a passive ‘buy-and-hold’ strategy. Questions at issue: What variables affect the valuation of an equity index-linked note? What parameters could indicate an appropriate timing for EILN restructuring? How have strategies utilizing such parameters performed historically? Are there optimal levels for these parameters? How does the volatility of returns compare to the passive ‘buy-and-hold’ strategy? Methodology: This study takes a positivist inductive approach in creating a MATLAB program that performs quantitative valuation of theoretically replicated EILNs from historical market data and a time series analysis on a selection of market timing strategies in order to answer the main purpose. Also, to answer some of the questions at issue, qualitative interviews are combined with literature studies in order to create a frame of reference. Results: Although not conclusive, the findings in the study indicate that a higher return can be achieved with an active strategy, using an option delta parameter as a lower limit for the relative exposure towards the underlying index and a risk-free rate factor as a relative profit taking parameter to limit relative exposure to the underlying index on the upside.