Can you explain what are some similarities and differences between snowball, KIKO (knock in knock out) and TRF (target redemption forward) derivatives?
Similarities: 1. Snowball, kiko, trf all belong to a family of derivative products with limited profitability and unlimited risk. 2. They all have periodic settlement (monthly USD sale, e.g.) 3. If you evaluate just the first few payments, NPV is negative, i.e. a loss, for the product provider(i.e. bank). However, if you evaluate the remaining payments, the NPV is positive. Their upfront profit is financed by taking risk in the back-end.
Differences: The main difference is in Early Termination Provision. For TRF, even if the original contract is for 2 years, if the life-to-date fx gain of the TRF is above a certain barrier, the contract terminates and all settlements afterward are automatically cancelled. For KIKO, if the exchange rate falls below a preset barrier level at any time during the life of the contract, the current settlement as well as all settlements afterward are automatically cancelled. For Snowball, there is no early termination, but, whereas TRF, KIKO both have fixed contract exchange rate, Snowball has a variable contract exchange rate that can reset against client's benefit. This mechanism generates enough value to give the client upfront benefit.