Interest rates house of the year: Société Générale

Marc Saffon

During the past year, two traditional powerhouses in Asia scaled back their rates businesses on account of new regulations that made proprietary trading more expensive. For Société Générale (SG), this presented an opportunity. Traditionally known for its strength in equity derivatives, SG made a concerted push into rates structuring that was strong enough to secure top positions in key markets.

The bank's volumes over the past year are attention grabbing. Across the region, SG sold the equivalent of $1.8 billion of its hybrid products, which combine foreign exchange and equity underlyings with traditional rates structures to boost yields, says Marc Saffon, head of financial engineering for the cross-asset solutions group, Asia-Pacific. Won-denominated products linked to constant maturity swap (CMS) spreads in Europe and the US raised the equivalent of $350 million. The leveraged version brought in the equivalent of $400 million from Korean institutions and the bank's private banking clients in Hong Kong. Equally eye-catching were the innovations SG was able to achieve with these structures.

The bank developed the CMS-linked products, for example, after discussions with clients showed growing concern about an impending rise in interest rates, says Saffon. CMS spread options are a convenient way to express a view on the shape of the yield curve. The idea, he explains, is that if rates are going to increase, the long end of the curve will grow much faster than the short end. The US Federal Reserve has been reluctant to increase rates, meaning the short end will likely stay flat, while the long end will start to rise with the slowdown in the Federal Reserve's asset-purchase programme, he says. CMS spread options allow investors to make a play on the relationship between the two. The most popular spreads with investors are the 10-year and 30-year swaps versus the two-year swap, and the 30-year swap versus the 10-year swap. In addition to allowing Korean investors to bet on US and European yield curves in their own currency, the bank's pricing on the products is "very aggressive", says Wookmin Kwon of NACF Cooperative Banking, a client.

Another standout product in the past year allowed institutional investors in Korea and Taiwan to earn the relatively high yields that companies in the region are accustomed to. SG's line of zero-coupon callable range accrual notes raised the equivalent of $200 million in Korea, while giving the bank 8% market share in Taiwan, which is a "very large market", says Saffon. The innovation lies in the way the accrued interest is paid out. Instead of paying out at the end of every year, the notes pay out just once at redemption. This gives investors the benefit of a higher return, he says.

High notional amounts tell only half the story, however. SG was one of only a few banks to give investors an opportunity to bet on yen interest rates in the past year, traditionally a less liquid market than US dollar rates, says Saffon. The JPY Long Term Callable Reverse Floaters carry an unusually long term of 20 years and offer periodic coupons negatively linked to short-term interest rates, which are expected to remain low for some time. The products were released into the retail market and have sold the equivalent of $16 million in the year to date.

Working together with a large Korean institution, SG developed a unique product linked to a proprietary index known as the Monetary Policy Driven strategy (Mod) index. The client requested a US dollar interest rate strategy carrying low volatility and no foreign exchange risk, explains Saffon, and in response SG created the index to employ a trend-following mechanism that exploits inefficiencies in the interest rate forwards market. "The forward curve rarely takes into account the behaviour of the central bank," says Saffon. "Generally, when the central bank increases rates, the likelihood is very high that for the next several months rates will continue to increase." The index positions the future based on this behaviour, which is often not priced into the futures curve. A local issuer provided the funding for the product in a notional amount equivalent to $35 million, while SG supplied the option.

SG houses eight engineers in the region, alongside three exotic traders. However, the bank is truly global, a fact that is reflected in practically every trade. As an example, Saffon describes the process of issuing the zero-coupon callable range accrual notes in Taiwan. "We issue the notes in Taiwan, but we take the position in Hong Kong time. Booking, risk management and hedging is done in New York." A few years ago, the bank offered only US dollar rates products in the region, but it has since expanded to offer local currencies such as the Korean won and Singapore dollar. For its breadth of international resources coupled with its strong local focus, SG is Structured Products' interest rates house of the year in Asia.