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Evidence from the EMTN market

Exotics enter the mainstream

The bug hunters cash in

It is difficult to obtain first-hand evidence of activity in the over-the-counter derivatives market but trends in the Euro-medium term note (EMTN) market ­ tracked using Euromoney MTN-Ware ­ can be used as a good approximation for those in the derivatives market as a whole.

Claims that principal protection is an absolute prerequisite seem only partly true. A recent lira-denominated note linked to the Milan MIB 30 equity index carried the redemption formula 100% + {80.50% x [(MIB 30 ­ 18165)/18165]} where MIB 30 is the closing price of the MIB 30 on January 14 1999. There is no principal protection in this note and investors lose 18.46% of their money if the index drops to 14,000. If the index drops to 10,000, redemption is just 63.81%. However, most of the equity index trades in the market ­ and the indices of European high yielders such as Spain and Italy are popular ­ are principal-protected.

The number of Emu-related swap spread trades indicates how much convergence/divergence plays dominate investors' and traders' thinking currently. Straightforward swap-rate-linked structures are common.

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