Sometimes they will earn more from that than from their traditional custody services. While the margins are slim, the sums involved are large and there will invariably be ways found, with some nudging, to eke out a few more points for the client.

More importantly, funds can explore the new types of structured products being offered by the investment banks, which provide downside protection on share market returns with higher guaranteed rates of return than cash. These products will involve counter-party risk – they are not the same as getting the “risk-free rate” – and their terms will be more to the medium term than short term.

They are proving increasingly popular in the US at the moment, even though the institutions offering them have been battered by the share market in recent months due to sub-prime-related losses.

One popular group is the “autocallable notes”, offered by Merrill Lynch, Goldman Sachs, Morgan Stanley and a few others. One of the architects of Merrill Lynch’s “enhanced liquidity note”, Michael Heraty, says derivatives such as autocallable notes are a must-have tool for more efficient access to higher returns. They are medium-term non-principal protected notes which can be linked to the performance of an underlying stock, basket or index, providing potential for a high yield at maturity.

The automatic call will be triggered if the share price of the underlying investment is at or above the initial strike price three days prior to any of the call dates or at the date the contract expires. The note may offer a guaranteed return of, say, 12.5 per cent as long as the index returns between a certain range. If the note is redeemed early, the investor would get the principal back plus 12.5 per cent. Maturities range from three to 10 years, however, Merrill’s Heraty says most public funds have purchased notes with a five-year maturity.

The notes are also offered by Merrill Lynch in Australia, according to director, synthetic and alternative asset management, Nicholas Allen. He believes that super funds are mainly worried about volatility at the moment and not so worried about liquidity nor cyclical market valuations.

Timely conference on market ‘dysfunctionality’

The second annual conference being organised by the University of Technology Sydney is timely for the Paul Woolley Centre for capital Market Dysfunctionality. The Centre, of which UTS is a network partner, funds a range of research projects on market efficiency.