(Bloomberg) -- South Korean retail investors, known for their appetite for esoteric financial products, could face massive losses on securities linked to oil futures.
At least five of the top 10 brokerages in Korea sold derivatives-linked securities in April 2019, when Brent crude futures were above $70 per barrel, according to their websites. Buyers for the complex products, which are based on two to three underlying indexes such as Hong Kong Stock Exchange Hang Seng China Enterprise Index (HSCEI), Brent, or West Texas Intermediate crude, could lose part of their principal if oil prices close below $35 per barrel today.
Korean regulators have stepped up scrutiny over the improper sale of derivative products at local brokerages to retail investors, many of whom were elderly people seeking a stable yield for retirement. Appetite picked up in 2018 after restrictions were lifted on brokerages issuing the products, while record-low domestic interest rates also fulled retail demand for higher-yielding instruments.
The nation’s top 10 brokers sold 17.6 trillion won ($15 billion) of such securities in 2019, according to data from the Korea Securities Depository, with their current outstanding balance at 15.4 trillion won.
A three-year product sold by Korea Investment & Securities guaranteed an 8.7% bond-like annual coupon if none of three underlying gauges -- WTI futures, the HSCEI Index, and the Eurostoxx 50 -- fall more than 50% from their closing prices on April 18. With WTI futures down about 56% since then through Monday lunchtime in Seoul, buyers may face a loss in principal of over 25%, according to the terms.
Furthermore, the products can occasionally spark turmoil at the large dealers that sell them.
“Given past cases, brokerages may face a loss too if they are not prepared with hedges,” said Hyo Seob Lee, a researcher at Korea Capital Market Institute. “And in a worst case scenario, retail investors may lose all of their principal.”
©2020 Bloomberg L.P.
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