JPMorgan's notes linked to MSCI EAFE, Russell offer short tenor, buffer but also less upside

By Emma Trincal

New York, March 12 - JPMorgan Chase & Co.'s 0% capped buffered basket-linked notes due Sept. 17, 2015 enable investors who need downside protection to get equity exposure over a short period of time, but the trade-off is a cap and no return enhancement on the upside, sources said.

The basket is comprised of equal weights of the MSCI EAFE index and the Russell 2000 index, according to a 424B2 filing with the Securities and Exchange Commission.

If the basket return is positive, the payout at maturity will be par plus the basket return, subject to a maximum return of 11.5% to 15%. Investors will receive par if the basket falls by up to 10% and will lose 1.1111% for each 1% decline beyond the 10% buffer.

Mildly bullish

"No leverage on the upside, a cap, but I'm getting a buffer for that. It doesn't seem that exciting if you're bullish," a portfolio manager said.

"But it really depends on the client's outlook. If you're worried about the downside, then you're getting this buffer instead of a knockout feature. You pay for the protection, and if it's your view, if you don't see the Russell and the EAFA running very much higher, then it seems fine.

"I don't see anything wrong with the pricing. It's on the market. Other firms are probably showing the same type of product. The cap is OK. It's within the size of what people have been calling for."

Traditional buffered notes with a 10% buffer on comparable equity indexes would tend to have longer maturities than 18 months, said a sellsider.

"This one is obviously very short. Given where interest rates are, buffers are very expensive. The gearing on the downside by selling puts helps you create that 10% buffer," this sellsider said.

Correlation value

Another way to price the expensive buffer is to use two indexes in the basket.

"Take a look at the correlation between the Russell and the EAFE. It's 0.83. The imperfect correlation with the two assets split 50/50 means that the probability of higher returns is a lot lower than if you were dealing with a single index. When you add the two, you reduce the probability of higher returns, and as a result, the cost of the options becomes cheaper," the sellsider said.

"That's another reason they were able to structure a 10% buffer on a short-term product like this one."

Overall, most of the value is concentrated around the buffer.

"The buffered structure is very beneficial. It's going to reduce the risk of your product. You're getting a hard buffer on an 18-month [note]. But there is a price for that. You don't have much on the upside. It's a capped, one-to-one exposure to this basket. This is not going to work well if the market continues to go up a lot."

The use of more than one underlying asset can be helpful, agreed the portfolio manager.

"First, it might help the notes price better. You've got different volatilities coming into play. One of the indexes on a standalone basis may not price very well," he said.

"Secondly, it may be useful on an asset allocation basis. Some people may not want to be fully in Europe, or they may want to be out of the U.S. but not entirely."

The notes (Cusip: 48127DAV0) are expected to settle on March 19.

J.P. Morgan Securities LLC is the agent.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.