The $300 Billion Structured Notes Market Is Booming

US SEC-registered structured-note issuance is on track to reach about $300 billion this year, up from approximately $200 billion last year, as investors seek customized market exposure, income and, in some cases, downside protection. Tracy Allaway says sales tend to rise when markets become unsettled, while Joe Weisenthal points to AI-related bets and concern about high valuations. S&P-linked products account for the largest share of issuance growth, especially worst-of autocallables tied to the S&P, Nasdaq and Russell.

A structured note exchanges the issuer’s credit risk and typically foregone interest for an equity-linked payoff designed around the investor’s preferences. Notes can provide bullish or bearish exposure, or income through option-based structures; a common design sells a put, using its premium to help fund the coupon. Alex Mikolitsi says high-net-worth individuals buying through private banks are the predominant buyers he sees. Notes can combine yield and market participation, but their protection is product-specific, and buyers remain exposed to the issuer’s ability to pay.

Autocallables may end early if an index is above its starting level at a scheduled observation, returning principal and a coupon but requiring the investor to reinvest. A three-year note observed every three or six months could therefore terminate at its first qualifying observation. In one one-year example, a 60% knock-in means a 20% decline remains within the stated protection, while a fall below 60% of the starting level exposes the investor to losses measured from that initial level. Higher coupons compensate for contingent downside exposure, and they can be higher when implied volatility is higher. If markets rally and volatility falls, an early knockout can leave investors reinvesting at lower yields.

Worst-of autocallables offer higher coupons because the payoff is linked to the weakest performer in a basket, rather than to the basket’s average. Two indices can rise while a sharp fall in the third leaves the investor exposed to its put-like downside. The structures add correlation risk for dealers, who must model how the assets move together and hedge against the weakest performer. Worst-of-three notes commonly run three to five years, but their expected life is about two years; frequent knockouts can make a nominally long trade turn over repeatedly. Mikolitsi says Russell’s sharp rise after being largely sideways for years contributed to autocallable knockouts.

Dealer hedging can become difficult when a note’s actual life diverges from its expected life. Dealers initially hedge delta, then manage exposures including volatility and knockout risk; a one-year S&P autocall might be hedged using a six-month expected life and listed options that do not exactly replicate the note. A decline can delay expected knockouts and extend exposure, while a subsequent rally can trigger rapid termination even as short hedges remain, potentially leaving dealers short substantial Vega. More broadly, clients are effectively short puts, and extreme moves can leave dealers short gamma, potentially requiring them to buy as markets rise and sell as they fall. Term mismatches, changing volatility or skew, and imperfect spread hedges can worsen the problem.

Single-stock notes create a different risk profile from index products. Some observe knockouts daily and are linked to semiconductors and hyperscalers, including Nvidia, Apple, Meta and CoreWeave. These notes are typically six to 18 months, sometimes as long as two years, and can be more binary: after a month, contingent coupons and daily observations may leave dealers with little option exposure or substantial put value. A daily-observation note linked to three stocks could knock out after one stock rises 20%, even if the other two fall 10%, removing a valuable put exposure. Mikolitsi describes a favorable investor path as high volatility followed by a quieter market drifting lower; a rapid rise can end the note early, while a plunge through a buffer can expose the investor to losses.

The speakers say US buyers use notes for participation, income, diversification and some protection, while other markets have tended to emphasize higher returns, shorter maturities and reinvestment. The return of yield in the US may have increased their appeal to high-net-worth investors seeking upside with less risk, though one speaker says market size has tracked total return more closely than coupon yield. Issuance has historically weakened when markets move sideways or decline, and a downturn can extend expected note lives, disrupt hedges and halt new issuance. The speakers warn that negative-gamma hedging could amplify selling in a decline, making a prolonged sideways or bear market consequential for a market whose exposure is complex to value and hedge.