The favourite structured product in the private banker's arsenal is a lot more expensive than it looks, according to research by RBS. Guaranteed accumulators have proven to be a real winner lately but RBS' analysis suggests that private banks are not pricing them at the optimum level.

According to the findings, guaranteed accumulators on stocks with low volatility and low forward prices should ideally knock out 104%-105%, or roughly the same level as regular accumulators, and at about 108% for stocks with high volatility and high forward prices. In practice, private banks tend to sell guaranteed accumulators with much lower knock-outs.

Investors in share accumulators buy a certain amount of stock at a fixed price each day the market price stays below a pre-agreed knock-out level. Regular accumulators typically knock out when the stock hits 105% of the launch price, which is fine when markets are doing a crab walk but these trades can easily knock out within a few days when markets are see-sawing.

Bankers came up with the idea of guaranteed accumulators û typically offering a minimum one-month of accumulation û to keep the trades alive for longer. The cost of the guarantee is much lower knock-outs, typically at about 102%. Even so, investors realise there are no free lunches and seem more than happy with this arrangement û by some estimates guaranteed accumulators now account for more than half of all structured product sales at private banks.

But according to RBS, these low knock-outs are not set at the optimum levels and can end up being very expensive for investors. "The attraction of low knock-outs is obvious for private bankers, but are they best for clients?" asks Garry Frenklah, head of non-Japan Asia private banking sales, equity derivatives and FX/precious metal derivatives at RBS.

The boffins at RBS ran Monte Carlo simulations on two sample stocks to work out the optimum knock-out levels for guaranteed accumulators: Apple to represent a volatile stock and HSBC to represent a stable one.

The conclusion was the same for both stocks: "Strike levels are massively higher, particularly for guaranteed accumulators, when the knock-out is 102%-103%," says the research.

For HSBC, investors would be buying the stock at 92.13% of the initial price at the optimum 105% knock-out level, which is 4.26% cheaper than on a 102% knock-out. Investors would get Apple stock at 81.71% of the initial price, which is 9.94% lower than for a 102% knock-out.

As RBS concludes: "These low strikes are expensive."