Lehman's offering of four currency baskets seen as bet against U.S. dollar

By Sheri Kasprzak

New York, Aug. 17 - Lehman Brothers Holdings, Inc.'s recently announced offering of principal-protected notes linked to the performance of four currency baskets against the U.S. dollar may indicate continued weakness in the U.S. dollar, according to an analyst.

Tim Mortimer, managing director of Future Value Consultants, a London-based firm that analyzes derivatives products, said that even though the structure does seem to predict continued weakness in the U.S. dollar, at least one of the baskets must appreciate by at least 10% against the U.S. dollar to break even against cash.

"It's betting that there's still some fundamental weakness in the dollar," Mortimer said in an interview Friday morning. "It's hard to say which of those baskets is going to outperform the dollar by 10%."

Mortimer said Friday that the Lehman offering and an offering of notes linked to the Goldman Sachs International Demand Basket from Goldman Sachs Group Inc. indicate creativity in the U.S. structured products sector.

"Product design is very imaginative in the U.S.," Mortimer said. "Both these products are not desperately complicated."

Lehman's note terms

The two-year, zero-coupon Lehman notes pit four currency baskets with long positions against a short position of the U.S. dollar.

The first basket includes the Brazilian real with a 33.34% weight, the Argentine peso with a 33.33% weight and the Mexican peso with a 33.33% weight.

The second basket includes equal weights of the Turkish lira, the Hungarian forint, the Israeli shekel, the Turkish lira and the Russian ruble.

The third basket includes equal weights of the Indonesian rupiah, the Singapore dollar, the Malaysian ringgit and the Indian rupee.

The final basket includes the euro with a 57.6% weight, the Japanese yen with a 13.6% weight, the British pound with an 11.9% weight, the Canadian dollar with a 9.1% weight, the Swedish krona with a 4.2% weight and the Swiss franc with a 3.6% weight.

Mortimer said the structure is interesting because three of the baskets are regional with currencies from Latin America, Asia and Europe and the fourth basket includes currencies from more developed countries.

Assuming one or more of the baskets appreciates relative to the dollar, the payout at maturity will be par plus the greatest of the basket returns multiplied by 100%. The exact multiplier will be determined at pricing.

If none of the baskets appreciate, the investors will receive par at maturity.

Goldman's notes

Moving back to those notes from Goldman Sachs, Mortimer said the structure is interesting because, even though it uses U.S. stocks, the stocks are dependent upon other economies.

"A lot of American companies will look competitive if you're exporting when your own currency is down," he said.

"If the U.S. is exporting the U.K., it will be good because it's quite cheap compared to local competitors. For one dollar, which was 70p a few years ago, it's now 50p. That's one rationale for the structure. You get exposure to a number of different economies, like Europe, Asia and other places, almost like a mini-global index."

Mortimer said this makes sense rather than linking to foreign indexes because U.S. investors may be more comfortable with 45 stocks they are familiar with rather than a few foreign indexes they have never heard of.

"You get global exposure while keeping the stocks you're linking to being well known to the investor base," Mortimer said.

The basket includes companies with a high percentage of sales in 2006 outside the United States.

The one-year notes pay $900 plus the basket return times 99% plus a fixed percentage between 1% and 1.5%, with the exact level to be determined at pricing. The exact payout will be determined according to the basket value on the determination date.

The payout reflects a 1% management fee.

Deutsche Bank's CMS slope steepeners

Elsewhere, Mortimer said Deutsche Bank AG, London Branch's recent offering of $4.372 million in CMS slope steepener notes may be the next stage in the evolution of the structure.

"Steepeners were very popular in Europe a few years ago," Mortimer noted. "This is where the technology and ideas come from. Because of the shape of the yield curve, the pricing did quite well. The longer-term swap rate didn't move in the right direction further down compared to the short term and became rather unpopular. You have to go to the 30-year rate to make it work now. It's interesting to see. It will be interesting to note the evolution in Europe."

Deutsche Bank's most recent steepeners have a 15-year term and interest will accrue on the notes at 10% for the first year. After that, interest for each quarter interest period will equal 15 times the spread of the 30-year Constant Maturity Swap rate over the two-year CMS rate. The interest rate will have a floor of 0% and a cap of 20% per year.

The notes are callable at par plus accrued interest on any interest payment date beginning Aug. 17, 2008.

If the notes are not called, the payout will be par plus interest.

Principal-protection may gain popularity

Mortimer also said Friday that he agrees with another market insider interviewed earlier this week that principal protection may become more popular as woes like the recent credit crunch and subprime mortgage problems continue to plague the U.S. market.

"One of the main advantages is the ability to take any underlying asset and offer whatever risk profile is appropriate," Mortimer said.

"The U.S. market has embraced reverse convertibles in a big way. We don't know how far this correction is going to go with the subprime issue. In a few months' time, if the markets are as rocky, I wonder what the appetite will be for reverse convertibles."

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