The Pricing of Structured Products in Sweden : Empirical findings for Index-linked Notes issued by Swedbank in 2005

Abstract: Structured products are investment vehicles that combine basic financial instruments to provide private investors with packaged solutions to more advanced investment strategies in financial markets. This paper investigates the pricing of 22 index-linked notes examined during their full life cycles between January 12, 2005 and January 17, 2007. The selected products constitute some 40% of the structured products issued by Swedbank in 2005, which at the time of the study is the second largest issuer of structured products to private investors in Sweden. Quoted prices on secondary markets are compared with duplication strategies using exchange traded options in order to calculate price differences. The pricing results show that quoted prices deviate very little from their theoretical values in secondary markets. The price deviations are surprisingly low in an international comparison. Some indications have been found that the market maker is able to influence prices on secondary market by orienting the pricing towards the relative life cycle and moneyness of the structured products. The importance of patterns in price deviations can, however, be questioned since the absolute level of pricing errors is low. There is little evidence to suspect that the issuer, Swedbank, systematically quotes prices that are not in line with their theoretical values. Sophisticated investors are thus likely to be able to judge the attractiveness of the structured product issue by comparing the transaction costs of the instruments in a duplication strategy with the transaction costs of the structured product. The author welcomes further research that includes multiple issuers to determine whether these findings apply for the Swedish market as a whole.