Animal Spirits Podcast - Talk Your Book: The Next Generation of Income Strategies

Starting point is 00:00:00 Today's Animal Spirits Talk Your Book is brought to you by Janice Henderson investors. Go to Janice Henderson.com to learn more about their whole suite of structured income ETFs with Janice Henderson.com. Welcome to Animal Spirits, a show about markets, life, and investing. Join Michael Batnik and Ben Carlson as they talk about what they're reading, writing, and watching. All opinions expressed by Michael and Ben are solely their own opinion and do not reflect the opinion of Redholz wealth management. This podcast is for informational purposes only and should not be released. relied upon for any investment decisions. Clients of Ritholt's wealth management may maintain positions

Starting point is 00:00:35 in the securities discussed in this podcast. Welcome to Animal Spirits with Michael and Ben. Michael, I feel like on these talk your book episodes, we bring some knowledge to the table, but I also feel like we are learning along with some of these. Sometimes become involved. One of the things that we've learned, I think, a lot in the last couple years, is how structured products work. And this isn't like in areas of expertise for you and I. We were not coming up in the structured product world. And these auto callable ETFs and the option income ETFs have just exploded. I will admit, the auto callable idea was kind of a blind spot for me. This is not something that I think many investors had ever heard of before or used. And it's a very interesting way to sort

Starting point is 00:01:21 transform your equity exposure. There is a reason why this category has exploded. I'm pretty sure I said on the show today. We'll record this intro, I guess, a week after the recording, but we got to do a rebrand. Imagine what this category can do if it was named something that actually had a hook. This means auto callable means nothing to anybody. And yet, I don't know how fast it took to get this to a billion dollars, but what's the ceiling on this? How about automatic income? 50, 100? Yeah, that works. Well, automatic is tricky for compliance. I don't know. We'll go to the lab. auto income? Okay. So we talked with Mike Loughlin, who's the executive director and ETF client product specialist at Janice Henderson. We've talked to Mike before. It's always good to talk to someone who's in the weeds on this stuff because you and I just pepper him with questions and to learn more about how these things work. And it's pretty interesting stuff. And this is stuff where I think before you go into something like this, you really do have to understand how these things work. Yeah, there's a lot of moving parts. Yeah, there really are. So here's our talk with Michael Loflin from Janice Henderson. Mike, welcome back to the show.

Starting point is 00:02:28 Great to be here, Michael, Ben. Love the opportunity. Appreciate it. So I was talking earlier with somebody in my office, a colleague of mine, and we were talking about the evolution of our industry and our business. And on the asset management side specifically, 2010's area was kind of boring. And it seems like this is the Warren 20s, both inside the wealth management industry, On our side, on the RAA side, in terms of everything that's happening with technology,

Starting point is 00:03:00 but also on the asset management side. I mean, this is absolutely the Roaring 20s. One of the areas that we're going to get into today is the structured product market, which is something that I'm sure there is some sort of regulatory change code, whatever, that allow these products to go into the wrapper. And they've made a massive dent in, I actually saw that Vanguard's share of the overall ETF market has stopped going up for the first time ever. And part of the reason is because of products like these and others. That was a long introduction. But why have structured products in

Starting point is 00:03:35 particular gotten so popular? Well, let's hope 2029 ends differently than 1929. One working mental model I have for our industry is that anything that can be ETF'd will be ETFed. And I think this is the current leading edge of product development, if you will. The ETF wrapper itself is a technology and that technology has improved over time. And as it improves, it allows more and more parts of the market to be incorporated into the wrapper. And so structured notes are an example of that. The structured note market itself is, you know, 40 years old. However, being able to incorporate it into an ETF is new. I think advisors and clients value structured notes because investing is inherently an emotional and uncertain activity. And anything that can provide

Starting point is 00:04:22 definition around investing. And in some ways, that's what these structured products are structuring is defined risk and outcomes. It's something that people inherently are gravitating towards. Traditionally, advisors did these as one-off notes, which was great for those clients, but it is operationally intensive for an advisor. It was something that was typically done in brokerage, typically only done for larger clients.

Starting point is 00:04:48 And we think bringing it into the ETF wrapper is going to allow advisors to reduce that operational burden, use it in more places across their book. The outcome you get from these strategies is, I think, pretty easy to understand for people to grasp, right? You could get some sort of yield from something. You could get downside protection. You could get sort of a, you know, you got a collar on this side and a collar on this side. So it's just maybe more defined outcome. So people understand, I think, what you get. But I think what goes into these strategies and products is a lot harder for people understand. So, like, maybe you could just tell us from a broad general perspective, like what actually goes

Starting point is 00:05:22 in, you know, because I know that there's a lot of paperwork for doing these products when you're dealing with options and swaps and, right? Like, it's, it's a lot of behind the scene stuff that has to happen for these things to work. It's a lot of behind the scenes. And it's a lot of ongoing monitoring from an advisor's perspective as these different structures. And it depends on what type of note we're talking about. You know, on the growth side, you have buffered notes that then became very, very popular buffered ETFs. Now we're seeing more of the income notes, something like an auto callable or a stability note that are making the, you know, that are making the, you know, their way into the ETF wrappers today. But the underlying physical notes are

Starting point is 00:05:56 operationally intensive for both advisors and actually asset managers. It's one of the reasons, at least in the products that we have launched or are launching, we've been sort of replicating those exposures actually through swap rather than when actually owning the physical note. But there is a lot of complexity and operational pipes and plumbing that go into this. And I think that's as those things get better over time, it's what unlocks more and more asset classes for broader wrappers like the ETF. So the autocolable category is relatively new to the ETF market. And it's huge. Like, I don't know how many billions of dollars it is already. But I have to tell you, not that you have anything

Starting point is 00:06:33 to do with this, it could use a rebrand. How is anybody supposed to know what an auto callable anything means? And please explain yourself. Yeah, the language for sure is not friendly, maybe even unfriendly. I think, though, if I was to sort of boil it down in the simplest way, there are investors who really want protection from severe market declines and uncertainty. And auto-callable investors are basically taking the other side of that. To use maybe an apropos analogy here, it's like insurance in a way. If you're a homeowner, you have homeowners insurance. You pay a premium to an insurance company because there's a risk that you don't want to bear,

Starting point is 00:07:13 which is the risk of your house, say, you know, burning down. Most years, your house doesn't burn down. and at the end of the year, you're not unhappy that you paid that premium. You're happy that your house didn't burn down. But the insurance company is earning that return, earning that premium for bearing the risk that you do not want, right? Because as an individual, you know, having your house in many cases a home is somebody's largest asset, having your house burned down is catastrophic, both personally and financially. And so you basically offload that risk to an insurance company who earns a premium. And almost by definition, you overpay for that.

Starting point is 00:07:48 right? The insurance company's earning a, you know, earning a profit. You're overpaying for sort of like the probability weighted outcome of your house burning down, but you're okay with that because the outcome is so severe. I think thinking of this like insurance is pretty helpful. This is income that is not duration. It's not credit. It's not dividend. It's not illiquidity. It's almost like it's underwriting income if that helps and makes sense. It does. So let me try to explain it. Let me know if I'm on the right path here. It's essentially the risk of these auto callables is the tail risk, right? So there's some sort of downside barrier, whatever it is, 40%, 50%, whatever your number is, and I'm guessing the lower the drawdown level, the higher the payout is going to be, the higher the,

Starting point is 00:08:32 but it's, so let's say you did an auto callable and the downside is 50% losses. If the stock market were to fall greater than 50%, that's when the risks kicks in for these strategies, correct? That's exactly right. The big risk. Yes. So functionally, you can think of, the structured notes as a package of options. And so in an auto callable, as an investor in the auto callable, the income comes from basically selling two main options here. The first is you're basically selling an at the money call. And that's where the term auto callable comes from. Because if the market goes up on over a specific time period, that position, that structure note is basically called away from you. And then the other thing that you have sold is exactly

Starting point is 00:09:13 what you described then. It is a barrier or a downing. input. And so if you struck your barrier at minus 50 and let's say the underlying asset goes down 49.99%, well, you're fine. If it breaches the barrier, though, now you're knocked in basically back to dollar one on that. And so that's why it's different than a buffer in that way. It's different than just a short put in that way. It is a true contingent barrier put option. And that's roughly the structure of an auto callable. Because that risk exists, you don't want to own just one of these, right? You want to own a bunch of them at different time series. It's like essentially like you're building out a private equity or venture capital portfolio where you want different vintage years or vintage weeks or months, however you explain it. Exactly. And that's a benefit of the ETF wrapper as well is you can diversify through underlying. And that can mean type of note, but it can also mean what that note is referencing, whether that's an index or individual stocks, a basket of individual stocks. So you want to be diversified across your underlying. You want to be diversified through time. And so that all of your notes are not observing at the exact same point. You want to be also diversified

Starting point is 00:10:22 through counterparty, so the different banks that you're working with. And so it's all designed to say, are we eliminating risk in these structures? No, we're not eliminating risk, right? The income is not free yield. It's income for taking on a defined risk. But by doing it in an ETF wrapper, we can hopefully make the portfolio resilient to the drawdown of any one name or any short time period, like a liberation day, for example. So how do these different ETFs work? Like, all right, I open a menu, and I'm looking at what exactly? So it does depend on the ETF, what the underlying sort of reference asset is.

Starting point is 00:11:02 We have launched a couple of products in the space, J.E.L.M, which stands for Janus Equity Linked Moderate and JELH, which stands for Janus Equity Linked high income. For our strategies, we have a pretty broad opportunity set in what we can create auto callable notes on. So we can do it on individual indices. We can do it on individual equities. We can actually do it on like a worst of basket of indices as well. Today in our strategies, all of the notes that we have are actually on individual equities. And there's a reason for that. If we look in the market right now, cross correlation among equities is near historic lows or said another way, idiosyncratic risk in the market is high. And when you're,

Starting point is 00:11:46 functionally sort of monetizing risk or monetizing volatility, we think you want to, you get paid well today to sell that idiosyncratic component relative to the index. And so if you were to look at our strategies, like if we crack them open from the ETF wrapper, what's under the hood, you're talking about, you know, 25 or 30 autocallable notes on 25 or 30 different individual equities, and then staggered through time so that they're not bulleted at the same, at the same date. All right, let's take these 25 or 30 names, whatever the case may be. And you're comparing an equal weighted version of these actual stocks versus how the ETF performs on a daily basis.

Starting point is 00:12:25 What is actually happening? Are you tracking the stock performance? Is there some sort of the price return is being transferred to an income source? How does this work? Because there's an auto call feature here, you're not paid for the upside of the stock, right? If the stock goes up 10% or 100% it's irrelevant, you're collecting your coupon. And the way that you collect your coupon is if the price of the stock stays above those barriers on specific observation dates, you get paid your coupon.

Starting point is 00:12:55 And so that's basically the name of the game here is we're trying to create a portfolio of stocks where the value of that stock is above that barrier. So we continue to get that coupon through time. It's a little different than how a fundamental manager might look at building a discounted cash flow model or an intrinsic value model for a specific name because they're trying to understand over a defined time period, what's the upside of this? For us, it's much more about how do we avoid large drawdowns to the best of our ability, but really create a portfolio that's diversified and continues to pay that coupon income stream. How would you compare this type of strategy

Starting point is 00:13:31 to one people who are more familiar with selling call options? Like that's kind of the option income strategy. A lot of people have really grasped in the last couple of years. Like, how would you compare the attribution or how these things perform or look? Maybe not perform, but you know what I'm saying the risk profile. So in a covered call strategy, the defining feature of that is you still actually own the stock. You generally will have sort of a still a pretty high correlation. What you've sold away is the upside exposure. So for you, you know, a good environment is, you know, flat to kind of slightly up. And where you lose is kind of in that explosive bull market where that position is called away from you. But the defining feature is still that, you know, you own the underlying stock.

Starting point is 00:14:10 here the source of your return, again, is kind of that underwriting premium, if that's an easy way to think about it. So a flat to kind of like moderately trending market is still good for us, but here, you know, what we are trying to avoid from a risk perspective would be like a deep, broad, and persistent sell-off. That's the kind of a market that really stresses in auto-callable structure like the one I described. So, so like a selling calls, you're giving up some of your upside, right? But you are sort of protected on the downside. And auto callable, if there's a raging bull market, that doesn't mean you're totally giving up on what's going on in the market around you. Yeah. And I would say in a covered call as well, you're only protected on the downside to the

Starting point is 00:14:51 extent of your premium income, right? So you still own the stock, so you still have the downside below what you earned in premium. In an auto callable, and this is what differs from a buffer as well, where sort of a buffer is like linear protection. In auto callable, you're protected up to that barrier. And again, to your point, then, these barriers can be, you know, 40 or 50% below the current market price. So they can be fairly deep. But that's the difference is actually in a covered call strategy, you will recognize, you'll start to take on losses potentially earlier because you're only protected by the premium income. We've been zooming in. Let's zoom back out. An advisor gets a question from a client. Hey, I heard about these auto call walls. What are these things?

Starting point is 00:15:36 what's like the simple elevator pitch from an advisor to a client? Because it sounds like a lot of what we've been talking about is pretty complicated. It is complicated. I think for an advisor who's looking to explain these strategies in the simplest way possible, I would lean on the insurance analogy, but I would help people understand that they're earning a return basically to bear a risk that somebody else doesn't want for some reason. So most income strategies you're paid for owning something. You own a bond and you get paid a coupon. You own a stock and you get paid a dividend. Here, you're again paid for underwriting something. And I think that framing is probably the simplest for an individual client. You know, when we think about attributes of these

Starting point is 00:16:23 strategies, they can have lower betas than other types of strategies because you actually don't, you know, relative to a cover call like we were talking about, you don't actually own the underlying stock, you're just monetizing that volatility component. But I don't like that language for a client. I think relating it to, you know, you're basically underwriting risk that somebody else is willing to overpay to offload, I think is, or in our opinion, overpaid to offload is the best framing. I like your analogy of think about you as the investor. You're the insurance company, right? And to your point, these things, I don't know if you even call it missed price, but you're right, people are willing to, it's the same thing with call and put options, right? They're not priced the same because certain

Starting point is 00:17:03 people want to hedge risks in certain different ways. So that mispricing or, you know, that difference just always exists, correct, for that really strong tail risk? Correct. Yes. Whether you want to bring in something like loss aversion, right, you know, the pain of losses is felt greater than the joy of gains. But you will see, especially for severe market events, that is especially painful for investors. And so systematically, they will pay more for that downside protection than the expected value of that protection again, in our opinion, because of that. It's the sort of same idea in my house. I pay more to my insurance company than the probability weighted value of that insurance, but I'm happy to do so because that event is so catastrophic for me that I want to eliminate

Starting point is 00:17:48 that risk. So when these auto callables come due, is it more efficient to just reinvest it back into new ones, or is it more efficient to pay out to the investors in income? How does that work? There are specific observation dates where you're comparing the price of the underlying asset to its inception price. If you get all the way to maturity, as long as you're above the barrier, you get your full principle back. So in our ETFs, when that happens, what we basically do is look across our opportunity set of individual names or indices and say, okay, we have an income target that we're

Starting point is 00:18:24 trying to achieve in this strategy. We're trying to do that in the least risky way possible. we just got principal back from a note that matured. How do we deploy that across this entire opportunity set to basically hit that income target in the lowest risk way possible? And there's a optimization that occurs as part of that. But that's functionally the process for what do you do when you either get a coupon payment in or when a note matures?

Starting point is 00:18:50 So before we get off this topic of the structure of note marketplace, could you describe good and bad environments? Like when would a client or an individual? advisor be upset? Like, what would be the, oh, man, this is not like what I was expecting? So a good environment is, I would say, just flat to, you know, moderately up, moderately down, because in those environments, you're collecting your coupons. And all of your return in these structures functionally is the coupon. So those are the good environments. That that environment, I would anchor around would be a deep, broad, and persistent sell-off. And each of those is important.

Starting point is 00:19:27 It needs to be deep because, again, these barriers are minus 40, minus 50 percent in cases. So they are significant barriers. It needs to be broad because if you have a basket of, you know, 25 or 30 stocks that you have notes on top of, then, you know, you're diversified across different sectors, different parts of the market. So you need basically the entire or large portion of the market to get tagged. It needs to be a broad sell-off. And then it needs to be persistent. It needs to exist through time such that multiple of your notes are missing their coupon payment or maturing below their barriers. So that's really the most stressed market that you can imagine is a deep, broad, and persistent sell-off. Could that happen? Absolutely. But we've tried to design products in

Starting point is 00:20:12 such a way that there is resilient to that outcome as they can be. So just to be clear, if there is a deep-air market that doesn't recover right away, these things will be treated like equity or close to it. Yes, there's a path dependency to these. As you get closer to the barrier, the sensitivity to the market increases, which should make some sense. And also as you get closer to an observation date, the sensitivity to the market increases. Like, imagine you have an autocallable note on stock XYZ and it's incepted at 100 and the stock goes to 150. Well, your delta is basically zero because at that point, you're so far above your barrier that you're going to get

Starting point is 00:20:50 your coupon and it's going to get called away from you. But as you trend down closer, let's say the barrier was minus 50 and the stock goes to 100 and then it goes to 90 and then it goes to 70 and then it ultimately goes to 51. Well, all of a sudden now you have a lot greater sensitivity right around your barrier, your delta and below the barrier, it is one. It is like owning the stock at that point. And so this is what makes these like to your point complex strategies and why we think you want to have professional management folks that understand how to model the different option outcomes. But it is a path-dependent structure where your sensitivity will change through time. And also the mark-to-market volatility, the mark-to-market of each note will change as a result of these as well. So I'm curious what the end goal is in terms of the profile for these funds. You said you had two funds. You had the high income and the moderate income. Are you shooting for income investors? Are you shooting for, listen, stock market like returns with lower volatility? Like, what is the end goal for these funds? Like, what are you trying to accomplish?

Starting point is 00:21:51 So I would say, you're right, we have two ETFs, JELM, which stands for Janus Equity-Linked moderate. And our prospectus income target is Sopher plus 3 to 5%. And then we have JELH, which is Janus Equity-linked high income. And our prospective's income target there is Sopher plus 6 to 11. If I was to look on our website today, we actually do show a weighted average coupon of the underlying. And so for J-E-L-M, it's about 10% today. For J-E-L-H, it's 13.4. So these are a reason high-income strategies. When we think about data's, I would say, you know, they can, they can vary depending on what's happening in the market, but I be around a 0.3 or 0.5 respectively. And so these are for clients who are interested in income. And I think there is generally a still

Starting point is 00:22:40 insatiable demand for income. It again is income that is not duration. It's not credit. It's not dividend. It's not illiquidity. So we think it's something that's new in the toolkit for advisors. and it's in that way, complementary and or diversifying a new type of return, a new type of income for clients. We have seen advisors as well use these in lieu of whether it's high-year-bonds

Starting point is 00:23:06 or private credit or even just not wanting to go out on the, you know, not wanting to take a lot of duration or fixed income as a kind of a fixed income bolt on. So there's been a few different ways that we've seen this utilized. but what we think is attractive is reasonably high income and a new or diversified source of

Starting point is 00:23:27 income. So you said a beta could be what, 0.3, 0.4.5, something like that? Yes. That's, like, lower than I would have thought. So there's not many stock strategies, I guess you would pick that have a beta that low. Correct. Yeah. And part of that has to do with the fact that today, because we're doing these notes on

Starting point is 00:23:43 individual equities and correlation among equities is so low, you actually get a big diversification benefit to doing auto callables on individual equities as opposed to doing them on indices right now. So that has contributed to the lower beta. But yes, your return is coming from income. So the appreciation in the market is not a factor. It's just purely an income generating strategy. And then do you have a basket of stocks that you say, hey, these are the stocks that we look to trade these instruments on, or is that a changing group of stocks? We do. So it is roughly the S&P, call it 75 to 100, the largest names, if we're doing it on individual stock. The reason for that is that is the group of names where the options markets on the individual

Starting point is 00:24:36 names themselves are deep and liquid enough for the bank to basically hedge the other side of the exposure here. Sometimes I like to think of a bank's derivatives desk as like a sports book in the sense that, you know, a sports book when the Super Bowl comes around, they don't want to bet on the Seahawks or the Patriots. They just want to balance the book and collect the Vig in the middle. A bank's derivatives desk, it's a simplification, but they don't want to bet on different underlying names. They want to, you know, make, you know, create these strategies and then be able to hedge the other side. And so for us, it's roughly the S&P, you know, top 70 to 100 names that we have the ability to do individual equity notes on. But again, we can do indices as well.

Starting point is 00:25:15 we can also do something called a stability note. So it's a different type of note than an auto callable. I don't know what it is, but I already like it better. What's a stability note? Billing notes a very interesting exposure. They exist really for both regulatory and market structure reasons. And they exist both on indices and individual equities. But basically, imagine you have a, it's a one-day observation period. So as an example, you might say a stability note on the S&P down 15%, but it's in one single trading day,

Starting point is 00:25:50 which is actually incidentally only happened once in history, which was Black Monday in October of 87. So the reason that exists has to do with the regulatory requirements placed on banks after the financial crisis. There is gap risk, basically the risk that markets sell off in an extreme manner in a basically one day time period. It's very difficult for a

Starting point is 00:26:12 to hedge that risk. It's very expensive to have sort of like a deep out of the money always on left tail hedge, if you will. And so because it's difficult to hedge, instead they insure themselves against that risk for regulatory reasons. And so a stability note does exactly that. It is one day the market has to be down more than 15%. So the market will be down today, 10%, tomorrow 10%, the next day 10%. No problem at all. You have to breach the barrier in a single day. What happens if it does? you die? No. So it's actually different

Starting point is 00:26:45 than an auto callable. What happens, let's say the market, your stability note is minus 15%, and the market goes down 16% tomorrow. The way that these function is, you take how much is it down minus the barrier? And then there's usually some sort of multiplier. So it's common for them to be like 5 or 10x

Starting point is 00:27:03 on a stability note on an index. So if the market's down 16%, 16 minus 15 is 1 times 5, your note is down 5%. If the market is down 20, you know, 20 minus 15 is five times five. Your note's down 25. So in the end of the world environment, you lose like 5%. In that specific example, yeah. Let me ask you, what do you think if you were taking a guess at what sort of spread? What kind of spread do you think you would get in a strategy?

Starting point is 00:27:30 I don't know. I'm guessing it's more than I would think it is because it shouldn't be very much. I would say 100 basis points is a lot. Today you're getting something like 250 to 3. 300 basis points on the structure that I just described over Sofer, which is actually greater than high-yield bond spread at the moment. And again, this is because it is risk that somebody else... Matt and I are both giving you the Ron Burgundy look. I can see that. Yes. So my thinking is the person you're selling this to or the people you're selling this to or the Black Swan Fund. You're selling this to Teleb, essentially. Is he the buyer essentially, the Black Swan Fund or am I missing that. It's not necessarily to somebody who thinks that a Black Swan event will happen. They would be

Starting point is 00:28:14 the one that wants to insure themselves. Like, yes, they would be the maybe the other side of this. If you think that the market might be down 20% in the day, this exists more for regulatory reasons, right? It's a bank issue. So if you went to the options market today and you tried to buy a zero day put 15% of the money, you would just get no bid. There is no market for that in listed options. It exists to close a regulatory gap that. It exists. To close a regulatory gap that exists for a bank. I mentioned there's a market structure reason, and it has to do with individual equities, and it actually has to do with the growth of the levered ETF universe. And so let me ask you, again, this is not a trick question, but if you have a two-x-levered

Starting point is 00:28:51 on an underlying, let's say, stock XYZ, it's two-X levered, and that stock's down 20% in one day. What's the ETF down? 40. Yeah, 40. What if the stock's down 50%? It gets delisted. What if the stock's down 60%? You die. Hand out the keys your house. Right. An ETF can only lose 100%. Right. They can't come to you and say, hey, you own this ETF and you owe us. But in the two X levered, in the two X levered ETF universe, there are banks providing

Starting point is 00:29:19 the ETFs that leverage. And so they have a material very left tail risk that if that underlying stock that they're providing that leverage on goes down by more than 50% in a day, they are on the hook for that delta because the ETF can only lose 100%. That makes sense. We actually have one of these positions in our strategies today on actually, funny enough, on SK. Hynix levered ETF, the universe got to, I think the main ETF got to like $17 billion in AUM. And then you 2X that. That's like $34 billion in notional exposure. So it's a meaningful

Starting point is 00:29:53 left tail risk for a bank that they cannot hedge. And so if they can't hedge it, they want to insure it. And so that's what that stability note does. But on the SK. Hynex trade that we specifically have in our portfolio, it was minus 45% in one single trading day. That's the point. The bank and the ETF settle up every day. So it's a gap risk that they have to plug. And it's on indices, again, it's like 12 to 15% is a common barrier. But on individual stocks, it can often be 45 or 50% can be the barrier. So obviously these leveraged ETFs are growing in popularity like crazy. Yes. You have no problem finding a market to make these things. It's basically the names that see explosive growth in a leveraged ETF, that's where the banks have that exposure.

Starting point is 00:30:39 But then, yes, we have the ability to work with those banks to basically transfer or ensure against that very, very large single-day drawdown. As an example, back to my SK-Hinix, when we did that stability note, the first one we did, we were earning a spreadover sofa of 14.6%, which you can see on our website still in the holdings. The banks were highly motivated to remove this risk from their book because of how fast the growth of the leverage ATF AUN was. All right. So I misunderstood this.

Starting point is 00:31:13 So these two billion notes, these are individual tickers and you're basically taking the other side of the degenerates. We don't obviously own the underlying S.K. Heinex in my example or the individual equity. We are providing insurance against a very large single day drawdown to a bank. That's what we're doing. For an index or for individual stocks? These exist on both.

Starting point is 00:31:34 So the product that you have, what are you providing insurance to? When we're talking about the auto callables right now. The stability one. Stability one. We actually have a note on the S&P and we have two notes on SK. Hynix today at different income coupons because we struck them at different times. So are there going to be a lot more of these coming to the market? I mean, we think the stability note exposure is really interesting.

Starting point is 00:31:55 I don't know that you'll see an ETF like an ETF of only stability notes, but we do think you earn a reasonably high income. And what's nice about these notes as well is they really, the realized volatility can be fairly benign because, think about it, back to my example on, let's say, S.K. Hynix, right? They had the worst, their worst day happened on a Friday in July. The stock was down 15% in a single day. But your barrier is minus 45. You're way off the barrier still. Or on the S&P 500, you know, if your barriers minus 12 and a half or minus 15%, like a really bad day in the market is the market goes down 3%. You're still so far from your barrier on a really bad day that the mark-to-market vol of these notes is actually pretty, like I said, benign. But depending on what we're talking about

Starting point is 00:32:43 on the index, you know, you're earning a spread that is greater than what you might earn on a high-yle bond today. So let's take out the tail event, the left tail, hey, you're down 50% and this thing, really, it's a big risk for this strategy. How about a run of the mill bear market where you're down, the market is down 20 to 30%? Is it just the income that is sort of providing you the the boost for the beta or like, how does this kind of strategy look in just a regular bear market where those down, those thresholds aren't triggered yet? In that type of scenario, what I would expect is you would still be receiving your coupon payments because you're not breaching barriers. You would probably have some mark to market volatility at the of the NAV of the strategy or

Starting point is 00:33:18 of any individual note going back to our conversation about path dependency. As you get closer to a barrier, you will see the mark to market value of the note decline in that example, but you're still receiving your income and maturity as long as you're above the barrier, you're still receiving your principal back. It's almost, it's analogous to like spreads and bonds. If spreads widen, the price of your bond declines, that doesn't mean you're going to have a default. It just means relative to the probability yesterday, the probability of default has gone up. But you can still get your principal back on a bond, even if spreads widen, right? Same idea. If the market goes down or volatility spikes, that doesn't mean you're breaching a barrier. It just means that relative to

Starting point is 00:34:02 yesterday, you're closer to that barrier. And so there's a, there's a mark-to-market impact to either the underlying note or to the ETF itself. But that doesn't necessarily mean that you will breach a barrier or you won't get your principal back. All right. I'm in. Mike, for people that want to learn more about your suite of structure products, how do they find more information? that they can educate themselves because it is, there's a lot going on here. Yeah, so Janice Henderson.com is the website. Also, if you Google J-E-L-M or J-E-L-H, they will take you to the product pages. For the advisors in the audience, you know, reach out to your Janus representative. We are putting out a lot of white papers and thought leadership here, educational materials on this

Starting point is 00:34:49 space. And there's a lot that we can do to help you both understand exactly the risks that you're taking in these types of products, how they fit. in portfolios and also most importantly probably how you communicate that to a client. All right. Sounds great. Good job. Thanks, Mike. Thanks, Mike. Remember, check out Janice Henderson.com to look more about all of the structured income ETFs and email us, animal spirits at the compound news.com. Please consider the charges, risks, expenses, and investment objectives carefully before investing. For a prospectus or if available, a summary prospectus containing this and other information, please call Janice Henderson at 800-525-3713 or download the file from

Starting point is 00:35:33 Janice Henderson.com forward slash reports. Read it carefully before you invest or send money. References to homeowners insurance are intended solely as an educational analogy to illustrate the economic concept of receiving premium income in exchange for assuming certain risks. The analogy is not intended to suggest that any investment provides insurance. insurance, guarantees, principal protection, or insurance-like benefits. Investing involves risk, including the possible loss of principle and fluctuation of value. Portfolios or strategies designed to generate higher levels of income may limit participation in rising markets. References made to individual securities do not constitute a recommendation to buy, sell or

Starting point is 00:36:19 hold any security, investment strategy, or market sector, and should not be assumed to be profitable. Janice Henderson investors, its affiliated advisor or its employees may have a position in the securities mentioned. Objectives. Janice Henderson equity linked high income ETF and Janice Henderson equity linked moderate income ETF seek high current income. There is no assurance the stated objectives will be met. Diversification neither assures a profit nor eliminates the risk of experiencing investment losses. Foreign securities are subject to additional risks, including currency fluctuations, political and economic uncertainty, increased volatility, lower liquidity, and differing financial and information reporting standards,

Starting point is 00:37:07 all of which are magnified in emerging markets. Forward foreign currency contracts risk. Forward foreign currency transactions are subject to significant volatility and market fluctuations that could result in substantial losses. These transactions used for hedging and speculative purposes also expose the funds to interest rate risks. Fixed income securities are subject to interest rate, inflation, credit, and default risk. The bond market is volatile. As interest rates rise, bond prices usually fall and vice versa. The return of principle is not guaranteed, and prices may decline if an issuer fails to make timely payments or its credit strength weakens.

Starting point is 00:37:51 derivatives can be more volatile and sensitive to economic or market changes than other investments, which could result in losses exceeding the original investment and magnified by leverage. Options may be difficult to trade under certain market conditions and imperfect correlation between an option and its underlying securities can reduce the effectiveness of an option strategy. Alternative investments include but are not limited to commodities, real estate, currencies, hedging strategies, futures, structured products, and other securities intended to be less correlated to the market. They are typically subject to increased risk and are not suitable for all investors. Equity securities are subject to risks, including market risk. Returns will fluctuate in response to issuer, political and economic developments.

Starting point is 00:38:39 Equity linked notes, ELNs, are structured obligations whose value is derived from an equity or equity index, ELNs may be difficult to value or sell, may lack active secondary markets, and may not fully participate in equity market gains. Because ELNs are unsecured obligations of issuing banks or broker dealers, investors are exposed to issuer credit risk and may experience losses if the issuer becomes unable or unwilling to meet its obligations. Many ELNs contain call features that can terminate future coupon payments and require reinvestment at less favorable terms. Reference assets such as equity indices, single securities, or multi-asset baskets can be highly volatile and may not behave as expected. Adverse movements may reduce or eliminate potential income and can result in significant losses.

Starting point is 00:39:36 Performance may diverge from broad market behavior due to index construction, volatility, controls, concentration, or methodology changes. Swap agreements are derivative contracts that provide synthetic exposure to a reference asset or index and may introduce counterparty default risk, valuation uncertainty, and leverage effects. Returns may differ from the reference exposure due to fees, collateral requirements, or imperfect correlation. Swap exposures may be less liquid or more volatile during periods of market stress. Autocallable instruments limit upside because payouts may cease once an auto call occurs, resulting in misfeiture income opportunities and reinvestment at potentially less favorable levels.

Starting point is 00:40:22 Barrier events can suspend income or reduce principle if predefined levels are breached. Depending on the terms, investors may receive no further coupons and may experience partial or total loss of principle following adverse market movements. Stability instruments rely on formulas that adjusts. Just payouts when daily market movements breach defined stability levels, which can lead to reduce income or early redemption at values below the amount invested. These instruments do not guarantee principle and may expose investors to amplified losses if leveraged components are triggered.

Starting point is 00:40:54 Payoff structures may limit participation in market gains while increasing sensitivity to significant drawdowns. Actively managed portfolios may fail to produce the intended results. No investment strategy can ensure a profit or eliminate the risk of loss. Beta measures the volatility of a security or portfolio relative to an index. Less than one means lower volatility than the index. More than one means greater volatility. SMP 500 index reflects U.S. large-cap equity performance

Starting point is 00:41:23 and represents broad U.S. equity market performance. Basis point BP equals one one hundredth of a percentage point. One BP equals 0.01%. 100 BPS equals 1%. ETFs distributed by ALPS distributors, Incorporated, ALPS is not affiliated with Janice Henderson or any of its subsidiaries.

Starting point is 00:41:49 Janice Henderson and any other trademarks used here and are trademarks of Janice Henderson Group Limited or one of its subsidiaries. Copyright Janice Henderson Group Limited.

Animal Spirits Podcast - Talk Your Book: The Next Generation of Income Strategies

There aren't comments yet for this episode. Click on any sentence in the transcript to leave a comment.