RBC launches buffered reverse convertibles; simplified structure timely, improves product, adviser says

By Kenneth Lim

Boston, Jan. 8 - Issuers continue to tweak the reverse convertible structure, with Royal Bank of Canada launching a number of products that add a buffer to the wrapper.

RBC plans to price buffered reverse convertibles due April 20, 2009.

A typical reverse convertible usually bears a coupon and returns par at maturity unless the underlying falls below a barrier level during the life of the note and finishes below its initial level. If both those conditions are met, however, investors will receive a number of shares of the underlying equal to par divided by the initial share price.

The RBC buffered reverse convertibles will return par at maturity unless the underlying finishes below the barrier price. In that case, investors will receive a number of shares of the underlying equal to par divided by the initial share price plus an amount in cash equal to the principal amount times a buffer amount.

RBC is offering notes linked to the common stock of American Express Co. with a coupon of 10.75% and a barrier price at 80% of the initial level; to Bank of America Corp. with a coupon of 12.5% and a barrier at 80%; to Citigroup Inc. with a coupon of 16% and a barrier at 80%; to CBS Corp with a coupon of 10.15% and a barrier of 80%; to Freeport-McMoRan Copper & Gold, Inc. with a coupon of 10.05% and a barrier of 80%; to Nucor Corp. with a coupon of 10% and a barrier of 80%; and to Wells Fargo & Co. with a coupon of 10% and a barrier of 80%.

Similar product at JPMorgan

JPMorgan Chase & Co. has also offered notes using a similar structure that it calls "single observation reverse exchangeable notes."

JPMorgan this week launched a series of 14% single observation reverse exchangeable notes due July 20, 2009 linked to the common stock of Bank of America Corp., with a protection level at 50% of the initial share price. The bank is also offering 12.75% single observation reverse exchangeable notes due July 20, 2009 linked to the common stock of Freeport-McMoRan Copper & Gold, Inc., with a protection level at 50% of the initial share price.

As in the case of the RBC notes, investors will receive par unless the final underlying stock price is below the protection level, in which case investors will receive a number of shares of the underlying equal to par divided by the initial share price.

Positive trend

A number of buysiders said they welcomed the new structures.

"I like these better than the usual reverse convertibles," an investment adviser said. "It's much simpler."

The adviser noted that issuers may not have been as aggressive in terms of new structures over the past few months.

"I read...that some people think it's time to get back to basics, maybe that's why we haven't seen anything really new," the adviser said.

"The last thing investors want right now is a complex structure or underlying where they don't 100% understand how it works.

"But I think this is good innovation. They're removing some of the bells and whistles in the reverse convertible that didn't really add to the product. I think the biggest difference is there's only a single point of reference for the payout, as opposed to previously, when your payout depended on how the underlying stock traded during the life of the notes and how it ends up at maturity. This is much simpler. This is innovation that brings the reverse convertible back to basics."

The adviser added that introducing the new structures now could be timely.

"Back in October and November, nobody wanted to touch equities," the adviser said. "I think the sentiment is slowly building now that equities could be near a bottom, so maybe they'll be more successful with these now. Two months ago, nobody even wanted to hear about equities."

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