Deutsche Bank’s $30.71 million review notes linked to WTI crude oil to reward range-bound view

By Emma Trincal

New York, Aug. 6 – Deutsche Bank AG, London Branch’s $30.71 million of 0% review notes due Aug. 19, 2015 linked to WTI crude oil futures contracts target investors who do not expect large swings in the price of oil, a sellsider said.

The deal was last week’s third largest. It also was one of the top 10 commodity offerings for the year to date.

The notes will be called at par plus an annualized premium of 11.25% if the futures contract price closes at or above the initial price on any quarterly review date, according to a 424B2 filing with the Securities and Exchange Commission.

If the notes are not called, the payout at maturity will be par if the underlying return is at least negative 15%. Investors will be otherwise fully exposed to losses.

J.P. Morgan Securities LLC was the agent.

Sources said the use of an autocallable structure makes the product slightly different as most commodity-linked notes use a delta one or leveraged payout.

The sellsider said that autocallables are mostly used with single stocks.

“But there is no reason you can’t do them on commodities,” he said.

The notes, he added, are designed for investors betting on a range-bound market in oil, which “is a risky bet,” he said, adding that this is one of the reasons the terms are attractive.

Memory is good

“We’ve done one in the last couple of months, but we used an absolute return structure. That was for investors who believe that oil will be volatile but within a range,” he said.

“This is for someone who’s definitely bullish. The terms seem quite aggressive.

“The note has memory, which is good.”

In an autocallable structure, the term memory refers to a payout feature that enables investors to receive missed coupons of prior observation dates when the notes get called.

For instance, investors missing a premium of 2.8125% on the first quarterly call date would receive 5.6250% on the second call date if the call were triggered at that point and not just the quarterly coupon for that second call date.

Counterintuitive

Investors in the notes receive a fair compensation for the risk taken, he said.

“Your view has to be the upside for oil is relatively limited, oil will trade in a relatively tight range. You don’t want a 30% return because your maximum is the coupon. It makes sense in the short term since you’re limited to 11%. So basically, this is for someone who thinks that oil prices will be relatively stable,” he said.

“With everything that’s going on in the world, this is almost a contrarian view. That’s why you’re getting paid the big 11%.

“It’s counterintuitive. Most people view oil as potentially on the rise, especially in this time of international turmoil, which there’s plenty of. If you’re taking the view that oil – normally a pretty volatile commodity – is not going to show huge moves, you should be paid for that. And you are with the memory, the 11% premium, all that on a one-year note. It makes sense.”

More specific

Agents this year have priced 93 commodities deals for a total of $1.22 billion, or 4.82% of the year’s total issuance, according to data compiled by Prospect News. The market share remains in line with last year’s figure of 5.35%, showing no improvement in the commodities space so far.

“The commodity play is much more specific than it was. There isn’t a huge interest for this asset class. Deals that are brought to market are no longer broad based but tied to one specific commodity like this one,” a market participant said.

“It’s a bit different to see an autocall. There may have been a specific party requesting that kind of deal, or the structure may have been geared to what the client wanted to do. There are so many things that come into play in selecting a structure.”

Oil deals

WTI crude oil prices are flat for the year. WTI futures contract prices rallied in the second half of July to decrease since then. But geopolitical uncertainty could bring higher levels of volatility, which would be useful to price better deals, said the market participant.

“It’s likely that we’ll see more WTI-linked offerings in the near future. It all depends if a client can benefit from it based on what their view is,” he said.

Four deals out of the top 10 commodities issues that have priced this year were based on oil prices. The biggest one, also brought to market by Deutsche Bank and distributed by JPMorgan, priced at the end of May in the form of $126.95 million of knock-out notes.

Last month, JPMorgan Chase & Co. issued a $156 million deal based on the J.P. Morgan Enhanced Beta Select Backwardation Alternative Benchmark Total Return index, an underlier that has gathered large volumes of sales, according to the data.

Access

“I think there’s a great chance that we’ll see more commodity offerings looking forward,” the market participant said.

“It will depend not just on commodities but on the direction of the equity market too. If you see a pullback in the market, people will be taking other views focusing elsewhere,” he said, adding that when stock prices fall, commodities may offer the benefit of non-correlation.

“Access is also a big driver,” he said.

“Notes have the advantage of offering access to the asset class to investors who wouldn’t know how to gain exposure otherwise. Even among advisers, only a few are really comfortable dealing with commodities futures. A lot of people don’t want to get a license to sell commodities. A structured note, a simple delta one can certainly provide easy access.

“Once stock prices begin to fall you’ll see a lot more interest in these alternative asset classes, and that includes not just commodities but also FX and real estate.”

The notes (Cusip: 25152RNE9) priced July 31.

The fee was 1%.

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