Votes, COVID & Volatility


As the U.S. heads to the election polls and many countries enter another COVID-19 lockdown, markets look even more uncertain for the remainder of 2020.

Unknowns surrounding U.S. elections and a COVID-19 resurgence are unwelcome variables adding to what is already a volatile year.

But as American voters decide on the next President, the race for Senate seats across the country are just as important for future policies and legislation. Depending on which party takes the majority, fiscal stimulus, healthcare reform, a COVID relief package, and infrastructure spending could be in the cards, changing the potential economic outlook for the U.S.

Given the possibility of future debt/stimulus for a COVID relief package, investors may see the back-end of the treasury curve rising as inflation and growth pick up. This could potentially be bad for bond portfolios. A resurgence in COVID-19 cases could also dent consumer spending for the rest of the year.

Taking into account the high number of mail-in ballots for the election, election results may be delayed. Without a clear cut winner, there could be a prolonged court battle, adding even more uncertainty to a historic year.


Global Challenges

In addition, many nations in Europe have gone into lockdown again as COVID cases rise above numbers seen earlier this year. Germany, France and the United Kingdom are introducing lockdown measures with increased restrictions, curfews and closing of non-essential businesses ahead of a ‘cold, long winter,’ as described by one Prime Minister.

Understandably, the potential mix of variables for any of the above scenarios has kept investors from making tactical shifts to portfolios.

With this in mind, investors may see an opportunity in structured notes, which saw significant demand during volatile periods earlier in the year on Halo’s platform.

In an era of ultra-low fixed income yield, structured notes can be a source of return while also providing a level of portfolio protection, even with the uncertainty the rest of 2020 holds.


Structured Notes can give Financial Advisors the confidence to put money to work

In these markets, it’s hard to tell what the potential effects will be, but Halo has seen particular demand over the last month for income-oriented structured notes with both hard and soft protection (see our post on types of structured notes and protection options).

As a reminder, income structured notes can offer a level of downside investment protection from market declines. They also allow investors to receive a specified yield in the form of a regular coupon, subject to the issuers ability to pay.

Income structured notes can be a great entry point for advisors into uncertain markets. These structured notes can build in a level of protection during unpredictable times, like what we’re experiencing today. We’ve seen advisors use income structured notes to help clients feel more comfortable deploying cash in an uncertain environment.

In the event that the market moves in either direction, advisors can take comfort in knowing that there is some downside investment protection. (We’re seeing 20-30% protection levels being popular right now.)

This also makes the advisor’s conversations with clients much easier, given that clients are rightfully scared but don’t want to miss out on a potential return.

For those who already have structured notes in the portfolio, advisors can look to ease their clients’ concerns by reminding them this is the very reason for implementing protective investment options in the first place.


Structured Notes can be a great way to “lock in” high volatility

With the uncertainty of the election and COVID, many investors have remained cautious. Financial advisors and clients may also have a larger cash position given the market turmoil already experienced this year.

While this wave of COVID infections is significant, advisors can look at this as an opportunity to “sell vol” by buying a structured note with soft protection. With soft protection, the investor is selling options (premium) to generate the downside protection. Hard protection is selling premium as well, but in a smaller amount resulting in smaller coupons.

Locking in volatility is also a great action item to discuss with clients in regards to how you’re taking advantage of the current market environment.

With structured notes, you can provide a reasonable expectation of what returns you might experience, given how the market performs.


Income Notes may be an attractive way to protect your portfolio

Investors who purchase these Income Notes receive a fixed coupon payment as long as the underlying assets’ price level isn’t below the protection level at the date of the coupon payment.

Additionally, at the end of the note’s term, investors will typically receive their original invested principal back unless the underlying asset price is below the protection level. This is when potential loss on principal takes effect, depending if hard or soft protection is utilized.

As a reminder, hard and soft protection both provide principal protection if the underlying asset is not down more than the protection amount. Hard protection is a more convservative approach where the investor is only exposed to losses past the protection amount. While soft protection exposes the investor to the full price decline of the underlying if it exceeds the protection amount.

With structured notes, you can provide a reasonable expectation of what returns you might experience, given how the market performs.

Even at maturity and if any principal is lost, the investor would still keep the coupon payments he or she has collected over the term of the note.

Income Notes can offer investors a relatively high amount of income over the period of the note. When interest rates are at record lows and when companies are decreasing or eliminating dividend payments to conserve cash, Income Notes can lock in a level of protection against volatility.

In other words, this is an opportune time to look at Income Note returns.


Income Notes can add flexible income options to portfolios

Investors can use structured notes to tactically take advantage of the market uncertainty and low yield environment we face.

Coupled with the possible volatility post-election, income structured notes may be a suitable way to lock in potentially higher than average fixed returns while offering a level of investment protection from further market declines.

While an Income Note pays out a coupon payment like a bond, investors should bucket them just as they would the underlying asset that the note is linked.

This means if the underlying was a broad US equity index, or specific stock, the note should be classified as an equity in the investor’s portfolio allocation. The primary reason being the investor is taking equity risk on the downside.


Uncertainty is certain

Although we can’t predict the outcome of the elections – Presidential, Senate or otherwise – and how long COVID lockdown will last, we do want to offer investors a way to add a little protection to their portfolios.

By substituting a portion of an equity allocation with an Income Note, it can provide a level of income on top of downside protection when we don’t know what the rest of 2020 holds.