Structured notes issuance $1.32 billion for week amid correction; year-to-date tally up 61.4%

By Emma Trincal

New York, March 4 – As the stock market continued to tumble in one of the worst weeks in history, structured products issuers went on about their business last week at an accelerated pace, pricing large-sized deals under the BofA Merrill Lynch platform and a multitude of smaller deals, giving UBS an edge as the month ended.

Income, indexes

Agents priced $1.32 billion in 235 deals in the week ended Friday, a 42.54% increase from the previous week, according to updated data compiled by Prospect News.

Not surprisingly, index-linked notes captured three-quarters of the issuance volume, with stocks accounting for less than 10%. This is almost always the case when Bank of America prices its monthly calendar offerings.

Income took 55% of the market share versus 31% for leverage.

It was in line with this year’s trend, which has seen autocall volume surpass growth products. But with the significant sell-off, selling volatility made even more sense than usual.

By the end of last week, the CBOE VIX index, or “fear gauge,” was near 50, a level not seen since 2011.

Historic correction

“It was some week!” said Matt Rosenberg, head of trading and strategic initiatives at Halo Investing.

The Dow Jones industrial average plummeted 3,585 points, a 12% decline for the week, the biggest weekly drop in percentage points since the financial crisis. At the end of the week, the S&P 500 index was already down 13% from its fresh all-time high of the week before.

Meanwhile the 10-year Treasury rallied, ending with a 1.17% yield, a level which dropped below 1% after the Federal Reserve took the emergency step of a rate cut.

The market turmoil was investors’ reaction to the spreading of the coronavirus out of China and how it may disrupt global supply chains of production.

Fear of fear

“The economic impact of the coronavirus has always been about fear of the virus. Fear changes consumer behavior. Fear changes policy-makers' behavior,” said UBS chief economist Paul Donovan in a Wednesday research note, after the Fed cut interest rates on Tuesday.

“Yesterday, fear reached the U.S. Federal Reserve, which cut U.S. interest rates by 0.5%. This may reflect some weakness at the Fed.”

Monthly, yearly volume

Volume for the month through Feb. 28 was at $4.37 billion, a less than 3% decline from the same period in January. But when taking into account the full month of January with a $7.03 billion notional, the decline was more considerable. However, the figures for February remain “live” and they will be revised upward as not all deals were filed with the Securities and Exchange Commission website by press time.

One much more encouraging and consistent number is the volume for the year-to-date at $11.39 billion, a 61.4% increase from $7.06 billion the year before, according to the data. The number of offerings jumped by 37.5% to 3,065 from 2,229. These figures account for the year through Feb. 28.

Some relief

“The market reacted to the coronavirus last week. But there was also some nervousness on Wall Street about Bernie Sanders winning the nomination,” said Rosenberg on Wednesday as the market rallied on the momentum created by Joe Biden’s strong comeback on Super Tuesday and the Fed cut.

“I don’t know if this pickup in volatility will still be going on in the few coming months.

“But these up days and down days are good for the industry. Volatility offers opportunities for protective structures and tactical bets alike.

“I hope that the trend will remain bullish. But in the meantime, these ups and downs are good for business.”

Long calls

Another characteristic of last week, predictable and dictated by the calendar, was the presence of block trades mostly coming from Bank of America’s distribution platform.

What surprised a market participant though was the fact that the top deal offered no downside protection.

“It’s just the byproduct of those wirehouses that do the same growth deals month after month,” he said.

“They’re consistent. But I don’t think these are the best deals in this market environment.

“We’re overweight autocallable income deals. We did 75% in autocalls last week, which is higher than normal.

“We’re skewed toward single stocks and U.S. indices worst-of autocalls.”

Tactical strategies

For this market participant, short-selling volatility to produce higher coupon and more defensive barriers is the most appropriate move for investors during a correction such as the one that took place last week.

“I’m 100% sold on income. Where rates are today, investors are seeking more yield with some protection added to it,” he said.

“These are the best structures if you want to hedge your portfolio and differentiate your payout. Yes, the note is going to get called, but you’re hedging along the way.

“Getting 3x leverage without any downside protection is not really the best way to hedge out your exposure to the market,” he said.

Rebound in sight

But leverage may be timely for some investors.

“The leveraged note is the classic recovery product,” said Tim Mortimer, managing director at Future Value Consultants.

“You price it when the market sells off. You get three times. If you believe, as I personally do, that the market will likely bounce back in the next few months, you’re set to get strong gains.

“It’s a classic recovery strategy.”

Scotia’s $163 million

Bank of Nova Scotia priced $162.92 million of 14-month leveraged notes linked to the S&P 500 index. The payout is par plus 3x the gain capped at 12.99% with full exposure to any loss.

On a smaller scale BofA Finance LLC issued another short-term, 3x leveraged deal with no downside protection. Linked to an unequally weighted basket of international equity indexes, the 14-month note capped the gains at 17.72%.

Another big leveraged note, this one featuring a 20% buffer, came from Canadian Imperial Bank of Commerce. The $42.16 million of five-year leveraged notes linked to the Dow Jones industrial average will pay 1.07 times the upside with no cap. Bank of America is the distributor. This deal was No. 4 in size.

Step up

CIBC priced the third offering with $50.52 million of market-linked step-up autocalls on the Euro Stoxx 50 index, another Bank of America sale and one of its top-selling structures. The notes are automatically called annually above initial price with a 13.6% call premium per annum. If not called, investors will either receive a digital payout of 35% or if the appreciation of the index is higher, the full index gain. They will be exposed to any losses.

Both deals priced on Thursday, the second lowest point of the market for the year to date after Friday, bringing an additional cushion against further declines.

Big income plays

Autocallable products are not usually big deals. Last week was the exception as investors could benefit from the surge in volatility by selling it for higher coupons.

“With volatility up, you get quite good terms on those worst-of autocalls,” said Mortimer.

“Stock prices have gone down; it’s a good time to get in.

“It’s an aggressive strategy, but it’s good timing.”

UBS sold $72.88 million of autocallables due Nov. 28, 2023 linked to the worst performing of the Nasdaq-100 index, the Russell 2000 index and the S&P 500 index on the behalf of Barclays Bank plc. It was the second top deal in size. The quarterly contingent coupon is 9.22% per year based on a 70% coupon barrier. The notes are callable on a quarterly observation. The barrier at maturity is 60%.

UBS AG, London Branch issued a similar note, the fifth one in size, for $41.07 million. Tenor, underlying indexes and coupon barrier were the same as the previous one. The difference was the 9.55% coupon and 55% barrier at maturity.

Those slight improvements in the terms may be due to the different trade dates: the first one priced on Monday and the second one,on Wednesday as the sell-off had already gained momentum, pushing up volatility levels.

A swap deal

Rates structures are rare. Only 10 deals in this group have priced so far this year for $41 million.

However, a decent size rate-linked note offering distributed by JPMorgan was spotted last week: Barclays Bank’s $9.54 million of 0% digital notes due March 15, 2021 linked to the 10-year U.S. dollar ICE swap rate.

If the swap rate finishes at or above its initial value, the payout at maturity will be par plus the digital return of 10.3%.

If the swap rate falls by up to the 50% buffer, the payout at maturity will be par.

Otherwise, investors will lose 2% for every 1% that the final rate is beyond 50%.

“You can see good terms on rate deals right now, sometimes better terms than in equity. Look at how fast the 10-year dropped last week. It’s definitely something we’re exploring right now,” a buysider said.

The top agent last week was UBS with $600 million in 125 deals, or 45.5% of the total. It was followed by Bank of America and Morgan Stanley.

The top issuer was Barclays Bank with 24 offerings totaling $207 million, a 15.73% share.

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