A trader works on the floor of the New York Stock Exchange on Sunday. [AP]
A trader works on the floor of the New York Stock Exchange on Sunday. [AP]

As leveraged exchange-traded funds that amplify a single stock's daily gains and losses by two to three times proliferate worldwide, Wall Street banks are rapidly expanding their use of an exotic derivatives trade known as the "crash put" to offload the associated risk.

According to Bloomberg, the crash put — also called a "cliquet" or "stability note" — functions as a form of downside insurance, protecting against catastrophic share-price declines. In practice, it is an over-the-counter derivative designed to guard against a scenario in which an underlying stock plunges roughly 50 percent in a single day.

In the structure, an investor takes on the role of insurer, absorbing the crash risk in exchange for a premium. Banks primarily use the instrument to transfer the tail risk — low-probability but potentially severe losses — embedded in leveraged ETFs to other investors.

"I've never seen this level of demand for this product before," said Natasha Sibley, a portfolio manager at Janus Henderson. Ramon Verastegui, chief investment officer at Kairos Investment Advisors, said "banks are now trying to grow the crash put market itself in order to hedge all these leveraged ETFs."

Among the most prominent examples are products tied to SK Hynix and Samsung Electronics. A crash put proposed by Goldman Sachs last May offered returns of 14.2 to 20.0 percent in exchange for absorbing the tail risk of two-times leveraged ETFs linked to those stocks for up to one year.

Daily gap-put premiums offered by BNP Paribas for SK Hynix also jumped — from 3.5 percent in March to 6.5 percent in May — while the premium for Samsung Electronics rose from 2 percent to 5.5 percent over the same period.

There is already at least one case in which such a product resulted in actual losses. When shares of US electric vehicle maker Lucid Group plunged as much as 57 percent during trading on July 14, the linked leveraged ETF was subsequently delisted.

Global assets under management in leveraged ETFs are approaching $250 billion, with more than 700 such products listed in the United States alone. US assets under management peaked at more than $200 billion in June before falling back to $160 billion (231 trillion won).

Owen Lamont, a portfolio manager at Acadian Asset Management, warned that crash puts represent "a classic combination that ultimately leads to bad outcomes — layered and hidden leverage, with many counterparties."


yckim6452@heraldcorp.com