Yesterday morning, a text message from an elderly relative of mine nearing his 70s, who lives in Malaysia:

"Are bonds a good investment right now?"

Assuming this is one of his regular investment-grade bond purchases (he abhors current FD rates in Malaysia - tho US and therefore HK rates are worse, but anyway), I text back, "They've been having a good run here in HK, in the weeks after CNY" (dinner last week with former colleague who is now on a bonds desk) and turn back to Rockstar and his Lego. Except right after dropping Rockstar off in school, a rather proud Yay, I've Locked In message buzzes in.


"Selection of 6 out of (list of credits)."

"3% fee applicable (despite) early withdrawal."

"5% penalty for early withdrawal."

What the hell?

Some further proud details about how the first tranche of RM 100 mio was oversubscribed and now he's joining a second tranche.....

I don't believe it. I don't bloody believe it.

"That sounds like a structured note. Was that the 'bond' you were asking me about this morning?" Still not believing it, I text Kings. Within a minute he confirms, "Sounds like a CLN" (Credit Linked Note.)

"Selection of 6..." That isn't just a bloody CLN, it's a basket, probably a First (though possibly a Second) To Default CLN. That means you sell protection (like "insurance") for an enhanced yield on a bunch of credits, and if one goes belly up in the course of the note life, you're delivered the defaulted bond.

I'm already waiting for Elderly Relative to pick up his cellphone.


An old structurer mentor of mine, way back when I first started out, used to drum into me, "Never tell me what your Salesperson says the client is calling it. Tell me what it does. They can call it anything."

This is true. Early on in our careers, Kings put together forex + interest rate hybrid notes and called them - wait for it - The Power Note.

"As in Power Rangers?" Nope, I never really let him forget it. Can't believe I finally got a chance to blog it 😀 I vaguely remember also a Turbo Note. (My hub is going to scream when he reads this, it joins the ranks of that Pigs Can Fly book he bought to have something to talk about with me when he heard I "like books".) He thought "Power" and "Turbo" were good words to imply enhanced return (with corresponding risk, of course - you have to have all the safety gear before you can drive the fast cars, don't you?) Back then we dealt with financial institutions, and counterparts might snort derisively. Or even banter in strangely-spelled Hokkien over the email at his um, creativity.

(But... I find it endearing, darling! <grin>). Ironically this thinking still invades the way we talk with Rockstar: Don't like something, come up with something better. And if you're the first to discover something, you might even get to name it and make everyone use your dorky name for it.

Yes, dear (other) readers, I know. I have a strange taste for geek bravado. <tragic hand-wringing> What shall become of our children? This is why I provide Kings with name suggestions. My hub shall not come up from scratch with what to name our kids. I would still like to see them sometime when they've grow up one day.

"DID THEY TELL YOU THAT IS A BOND??? It's a Structured Note."

"Um... Well she did say Structured Bond, but she also said it was very safe. Like the (other bonds he usually buys). <pause> FD rates are just terrible."

I don't even know what I should be saying first. Do I condescend by repeating No-Enhanced-Return-Without-Risk-And-You-Have-To-Check-What-The-Catch-Is, or do I proceed with how the "coupon" he's mentioned is wildly not commensurate to the investment risk he's about to expose himself to, or do I go on about the rather long (for that product in this environment) tenor, number of credits in the basket and....... Hang on. What were those worst-rated credits in the bunch of names he texted me again? That name is in there?

"Is that a first-to-default, are you taking the first hit out of that basket of 6 (to-be-selected-by-the-bank)?"

"First-to..... Yes. I lose the money if one issuer defaults." Ok, he's aware of that...

"But she said it was very safe, and it's only for 3 years. Some of my bonds....." Crap.

"IT'S NOT A BOND!! You can buy/sell liquid bonds way before they're due to mature. AND you don't have all the high early termination fees and things for - Ok. Ignore the "safe" names, all those names you like. Look at that worst name in the basket, because that is all that is going to matter (simplistically, to him I mean) if that's a first-to-default. Well, that and the issuer."

I'm fairly sure I know the answer. But, cautiously, "Did.... they..... mention to you..... what constitutes a default?"

This is the problem with Credit-Linked products being sold to individuals. This was why I left off doing these in my last few places (bearing in mind by then I was doing products for the bankers who sell to high net worth individuals, not institutions), and rarely put them together unless a client specifically requested one (in which case they already knew what it was - anyway we didn't handle laymen, only "sophisticated investors," as classified by HK regulators as such.) It's because "default" can be defined in the legal documentation of the derivatives used to put together the product as say, a lack of ability to meet certain obligations in a year, a restructuring and so on... It is not necessarily your regular man-on-the-street's understanding of a default. It's based on the legal. And it has occasionally been triggered by world/ trading events without the name actually "defaulting" in the way most laymen might assume.

I don't find that easy to explain to your average (especially very elderly) investor and it's a red flag if they can't really get it out of their head it's not a straight bond to begin with. Because what happens next can possibly be very un-bond-like. You usually need some training classes - for the bankers selling them as well as the clients, if you want to do a widespread exercise like this.

(Anyway I used to tell RMs if I couldn't get them to understand it in 5 minutes they shouldn't sell it, I have to go get something else. No this does not make me a good person. This just makes me a practical person. Because the resulting hairy fallout is just not worth what we might make on the trade, there were so many other things we could sell without taking this on.) 

Technically that isn't always bad either, because based on the CDS (Credit Default Swaps) used to create the CLN and lack of regulation (in those days - yes the very same that is having US regulators jump up and down now), it was possible that so much CDS was written on certain names (i.e. so many investors sold protection) that there weren't enough defaulted bonds in the market to deliver to sellers of protection, thereby resulting in the price of the defaulted bond trading higher than the original bond traded pre-default.   

Yeah every time I blather on about these things here my readership tanks so I'm gonna stop. For one thing, Kings stops reading. Ambushing him with work-related stuff when he expected cute pictures of Rockstar forever annoys him. So anything, email me - I wanted the mental stimulation during the pregnancy anyways.

Random Pic To Please The Husband. It has "Daddy" on it.

"You WHAT???"

"I didn't buy that much. <pause> Well, not really. She said it was a very safe product."

"It is NOT a bond. And it is NOT a "very safe product". If you aren't careful, it is relatively similar to what killed many investors in Singapore and HK, not to mention bankers, because of the resulting fallout due to mis-selling allegations - and it seems because Malaysia hasn't been hit by widespread Lehman Minibond phenomena now you're starting on this thing."

"But to get out now I'd have to pay all the penalty fees. Think I'll lose more than the penalty?"

"That last name in your basket - you can't simply hope the bank doesn't pick that in the final 6. That is where all the meat would come from."

I remember the few individuals we tailor-made these for - they were extremely savvy about picking credits that had very little "meat" in them, i.e. very little room to maneuver if the price ran, very little room for mistake - and yes, very little room for us to make anything out of it. (We had to do repeat business - yet another good motivation, if you needed one, not to skin someone). In the end it was very hard to execute the product and I happily did something else, because quoting close to flat also means the trade can quickly become un-profitable. I would tell the banker the client had to be prepared we couldn't do the trade if the price ran - and that was an indication of how close to the bone we cut it for them, i.e. that we weren't skinning them. No one ever yelled about it, that was fair. Civilized.

I want to yell at this banker. The one who has sold my nearing-70 year old relative in Malaysia a First To Default Credit Linked Note he thinks is "a bond," with more meat in it than you can find at KFC. Not so much for being cutthroat, more likely for being stupid.

"Let me call you back in 10 minutes. I want to try and see if she'll let me get out of it before the bank closes."

"You can't have signed it more than an hour or two ago. If you're joining a big book-building tranche that hasn't closed she can't have executed it yet. You thought it was a bond. If she doesn't let you out of the trade, mention reporting the mis-sell. Though worse case be prepared to pay the early-withdrawal penalty to get out." Though that would've been pretty nasty on the banker's part - I don't even remember having to inflict that on any of my banker's clients in much faster-moving HK, even if I had already squared it with my counterpart, they would probably still let me go, annul the trade. Also, I'm not sure they can inflict the penalty on him easily, so early in the day. It's whether they let him off or hold him to it.

In less than 10 minutes, my iPhone buzzes. "She let me off. WHEW."

I haven't heard anything more from my relative (despite various messages on my part explaining why it's too "meaty" a trade - correlation, names, tenor etc). It's been maybe 15 hours. Must have been way more excitement than he'd expected for the day...

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About Aileen

I blog about living and raising my son in Hong Kong - where toddlers have entrance interviews, parents keep test score spreadsheets, private school debentures can trade for more than half a million USD. Raising Rockstar's the most important thing I'll ever do. We show our true colors by the choices we make in bringing up our children. My blog is a message to my toddler son, about what the world and his parents are like today - for when he becomes a teenager and knows everything.
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  • jk

    Enjoyed reading this very ‘kan cheong’ post. (though I don’t really understand these stuffs)  Very educational – have to read few times untuk lebih memahami isi kandungannya.  🙂

    • Aileen

      Thanks dear, memang sukar I fikir same ada nak write these, kerana orang madam suami says always complains bosan sangat nak baca.. 

      There’s nothing bad about the derivatives themselves, I loved them so much and found some ideas extremely creative – each layer of complication has to be there for a reason because the client is paying for it… The problem arises when they’re sold to the wrong clients, sometimes simply because the RM didn’t know to get something else, rather than any actual predatory motives..

  • zmun2

    Hi Aileen, 

    Contrary to what you think about your readership tanking when you wrote about this, I like to read your posts on this subject matter mainly because it is very educational. Your relative should be very thankful for having you as his personal investment guru. How I wish I have one! 🙂

    • Aileen

      Aiyo Paisay they don’t ask me anything regularly, they all pretty much do vanilla stocks or bonds, for which I’m not very useful for.. N u know where to find me, Mun 🙂