Dual Currency Investments/Currency Linked Investments

This is a short term structured product in which the payout can be in the base currency or alternate currency depending on the exchange rate on fixing date (ususally maturity date T-2). It consists of 2 components : 1) Normal deposit; 2) Option. From client's perspective, she's short the option (i.e selling put option to bank). As a result of shorting option, client can suffer substantial loss if the exchange rate moves out of her favor. CLI can be tailored(choice of currency, tenor, strike rate) to suit the client's needs.

Motivation
1. Enhanced yields for CLI compared to normal deposits. This is understandable as the customer is also getting premium from selling the option. Once the strike rate, tenor, currencies are set, the bank decides on the yield.
2. Customer has a view on the currency market and does not mind holding alternate currency.

Risks
1. Substantial loss can be suffered from selling the option. Let's take a hypothethical scenario:
    (i) Client invests SGD 100k at 5% for 6mth. Alternate ccy = USD. Strike 1.2. If USD/SGD falls below 1.2, client will buy USD at 1.2 (ie. sell USDput/SGDcall option)
    (ii) On fixing date, usd/sgd rate is 1.1, and client receives payout in USD on maturity converted  at 1.2.
         USD payout = 102,500/1.2 =U$85,417. Convert this back to SGD at current rate and client      gets S$93,958, a shortfall of S$6,042 compared to initial capital.
One thing to note is that regardless of exchange rate, customer always ends up with the weaker ccy =>If USD/SGD is 1.3, customer will have SGD. If USD/SGD is 1.1, customer will have USD.
2. Like normal structured investments, substantial loss may be incurred on premature withdrawal.

3. Client assumes risk of extraordinary events (eg. war, strikes, restriction on ccy convertibility etc) that make it impossible to convert the proceeds to alternate ccy. In such scenarios, bank can prematurely termintate the structure and client will bear any losses arising from such. This may include cost of unwinding hedges made by bank with regards to the CLI. Market value of the CLI under such circumstances is determined at sole discretion of bank.

Banks can sell the put option that comes with CLI in the secondary market, and part of this premium is passed on to customer. Alternatively this long put position can be used by the bank for internal hedging purpose and at a lower cost.

4. CLI is not covered under Deposit Insurance Act.

CLIs were quite popular in Singapore before subprime crisis 2008. Customers got to enjoy enhanced yields while low volatility environment reduced the chance of option being exercised. However, the extreme volatity witnessed in the aftermath of the crisis caused options volatilities to shoot up. Many of the options underlying the structure were triggered and clients suffered huge losses as fx rates swung to their detriment.