Citigroup links buffered notes to Financial SPDRs; Morgan Stanley ties bear notes to S&P 500

By Kenneth Lim

Boston, Sept. 24 - Issuers are offering both bullish and bearish products on key market benchmarks, suggesting persistent uncertainty about the direction of the markets, an investment advisor said.

Citigroup Funding Inc. plans to price buffer notes due 2010 linked to the currently volatile Financial Select Sector SPDR fund.

At maturity, if the underlying fund closes above its initial value, the notes will pay par plus about 200% of the gain on the index, subject to a maximum total return of 36% to 40% of the principal amount. The participation rate and the return cap will be set at pricing.

If the fund finishes flat or declines by no more than 10%, investors will receive par. If the fund falls by more than 10%, investors will lose 1% for every 1% decline beyond 10%. The notes will be offered at par of $10.

Morgan Stanley links to S&P 500

Morgan Stanley is offering Bear Market PLUS notes due March 30, 2010 linked to the S&P 500 index.

At maturity, if the underlying index finishes below its initial level, each Morgan Stanley note will pay par of $10 per notes plus six times the absolute value of the index percent decrease. Investors will not receive more than 200% to 240% of their principal amount. The return cap will be set at pricing.

If the underlying index finishes above its initial level, investors will lose 1% for every 1% gain in the underlying index, subject to a minimum payout of 20% of the principal amount.

Notes reflect different outlooks

The Citigroup and Morgan Stanley notes are on two ends of the spectrum in terms of market outlook, the investment advisor said.

"The difference is pretty stark," the advisor said. "Both of them are leveraged, and their terms are about the same, but one is clearly bullish and the other one is very clearly bearish."

That both products are being offered at the same time could be a reflection of current confusion in the market, the advisor said.

"I guess you could infer that, since the banks are probably offering the products only because they think there's enough interest in them, then there must be a pretty wide range of opinions out there about how the market is going to do in a year and a half," the advisor said. "And just looking around I think that's probably not too far from the truth."

High caps, high risks

The advisor noted that both products appeared to have attractive payout structures.

"When was the last time you saw a 600% participation rate on what's essentially a broad index?" the advisor asked, referring to the Morgan Stanley notes. "And the return is capped at 100% to 140%. Plus you have partial principal protection. It's like reading a Christmas wish list."

But the advisor noted that the notes are also rather risky.

The Morgan Stanley notes have no buffer, while for the Citigroup notes, "your buffer is only 10% on the downside, so it doesn't take very much for the market to go against your view, you'll start to lose your principal," the advisor said.

Both the S&P 500 index and the Financial Select Sector SPDR have also been highly volatile.

"It's just a highly volatile space right now," the advisor said. "There's a reason why they're offering you so much."

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