A few investors have asked for my advice whether they should cash out on the structured products that have not yet experienced a "credit default". The current price of these products now represent a loss of 20% or higher on the orignal investment.
I have replied that I am not able to give specific advice for any particular product. Each product has its own characteristics. To give proper advice, one needs to have more detailed data and to calculate the chance of a "credit default", which is quite difficult.
Here are some general remarks:
1. The quoted price now usually assume a "worse case" scenario. It is usually less than the current market value of the underlying assets. As there are more panicky sellers, the buyers can offer a lower price to make a profit (in relation to the actual risk). The buyer could be a savvy financial institution which is able to calculate the risk better than the retail investor.
2. The bailout plan passed in USA is likely to prevent further failures of large financial institutions, like Lehman Brothers. Perhaps, there will be no large failures of this kind in the future, even if the economy worsens.
3. If I were the retail investor, I would prefer to take the risk and wait for maturity. The chance of getting a higher return is better than cashing out now. But this is based on "gut feel" only.
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