JPMorgan launches ETNs linked to MLP index; variable coupon, price average unusual, adviser says

By Kenneth Lim

Boston, March 16 - JPMorgan Chase & Co. launched a series of exchange-traded notes linked to the VWAP level of the Alerian MLP Index, raising some eyebrows with the unusual underlying and the use of averaging.

"This is highly unusual," an investment adviser said. "It's a very interesting because there's a coupon on this and they're using the VWAP of the underlying."

JPMorgan Chase & Co. plans to sell the ETNs due May 24, 2024 linked to the VWAP level of the Alerian MLP Index.

The index measures the composite performance of energy-oriented Master Limited Partnerships, which are limited partnerships primarily engaged in the exploration, marketing, mining, processing, production, refining and storage of any mineral or natural resource.

The notes will pay a variable quarterly cash coupon based on any cash distributions paid by the MLPs that form the index. The quarterly coupon will equal the distribution amount less an accrued tracking fee of 0.2125%. The tracking fee is equivalent to 0.85% per year. If the distribution amount is less than the tracking fee during a quarter, the notes will not pay a coupon for that quarter.

The payout at maturity will be par plus the index's five-day VWAP return and the final coupon amount. Investors will be exposed to any decline in the final volume-weighted average price versus the initial volume-weighted average price level.

Early redemption is subject to a minimum of 50,000 notes. The notes will be sold at one-tenth of the initial volume weighted average price of the index.

The notes will be listed on NYSE Arca under the symbol, "AMJ."

Unusual underlying

The notes are one of very few ETNs linked to MLPs, the investment adviser said.

Bear Stearns sold some "BearLinx Alerian MLP Select ETNs" linked to the same underlying index in 2007. A little under $100 million was issued in total.

"I don't think I've seen that one before," the adviser said. "ETNs are still relatively new, so almost every new ETN is kind of a first. We've seen a lot of commodity ETNs, gold ETNs, VIX. Every time someone comes up with an ETN they do something that no one else has done before."

The coupon is also unusual, the adviser noted.

"Most of the ETNs don't pay a coupon," the adviser said. "Whatever money you make from them you have to do it through redemptions. This one actually gives you a potential income, so it's different from the rest."

The coupon is probably necessary because most investors in MLPs do so for the yields that come with the asset class, the adviser said.

"When you invest in a structured product instead of directly in an asset class, you forgo the dividends in a direct investment in exchange for protection or leverage," the adviser said. "But with MLPs the yields are so high, if you don't address that yield you won't be able to make the product attractive enough to be an alternative. I think by offering the coupon they're offering a potential solution to that issue."

Averaging risk

The notes also use volume-weighted average prices of the index to calculate returns, which could help to reduce exposure to underlying volatility, the adviser said.

"I think it gives a bit of cushion against the point-to-point risk of the notes," the adviser said. "You don't have to worry as much about the index having an irregular price movement just when you're making a redemption. I think it's a good feature to have."

The notes could be an alternative to investing directly in the underlying index, the adviser said.

"I think it could be interesting for investors who want to gain exposure to this asset class," the adviser said. "This offers a way to gain exposure through an index, which is often an easy way for first timers to enter into a particular sector, and it offers a yield that's pegged to what you would get in a direct investment.

"It's also possible, although this is still a gray area so I wouldn't make a decision based solely on this, but it's possible that you get favorable tax treatment through investing in ETNs instead of through an ETF or directly in the underlying assets because you can treat any gains as capital gains."

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