Snowball derivatives, often referred to as "snowballs," are a type of financial derivatives product used by investors seeking bond-like coupon payments, provided that the underlying assets, typically stock market indices, do not breach a predetermined "knock-in" level. These derivatives became popular among investors, offering steady interest payments while the underlying assets remained within a specified range.
Investors are attracted to snowball derivatives due to their ability to generate consistent returns as long as the associated indices trade within a predefined range. These derivatives are structured to provide investors with a bond-like coupon if the underlying assets, such as stock market indices, do not breach a specific lower limit or "knock-in" level. This lower limit serves as a trigger point, and if the index falls below it, investors may face substantial losses on their original investment unless the index rebounds.
Snowball derivatives gained significant traction in the Chinese financial market, with an estimated market size of around RMB 320 billion (approximately $45 billion). Brokerages and private wealth managers actively promoted these derivatives, offering attractive yields, especially during periods of market stability. Investors were enticed by the promise of relatively stable returns, which made snowballs an appealing investment option.
However, the appeal of snowball derivatives diminished as market conditions became more volatile, leading to frequent breaches of the knock-in levels. The sustained stock market decline that began in late 2023 resulted in indices falling below these predefined levels, triggering knock-ins and causing substantial losses for investors. Many of these derivatives were linked to the CSI 500 index of Shanghai- and Shenzhen-listed stocks, as well as the CSI 1000 small-cap index.
Retail investors who had invested in snowball derivatives faced significant financial losses. These products, once marketed as relatively safe alternatives to traditional bank deposits, became a source of frustration and financial hardship for those who believed in their stability.
- Chinese retail investors hit by big losses in ‘snowball’ derivatives. Financial Times.
- 'Snowball' derivatives feed China's stock market avalanche. Reuters.
- China Snowballs and Their Role in This Year’s Stock Selloff: Q&A. Bloomberg.
- China stocks rout exposes risk from US$30 billion of little-known leveraged ‘snowball’ derivatives. South China Morning Post.