Structured notes issuance hits $300 million amid market sell-off; bid on digitals, revcons eyed

By Emma Trincal

New York, June 17 – Structured products agents priced $300 million in 141 deals in the week ended June 12, one of the worst for stocks since March.

For the month through Friday, volume hit $1.02 billion, down 17% from the same time in April, according to data compiled by Prospect News.

However, June so far was nearly 50% higher than a year ago, which recorded $685 million through June 12.

The year-to-date issuance volume remained solidly ahead of last year’s with $31.88 billion, a 54.2% increase from $20.67 billion last year.

The number of deals during the period jumped by more than 41% to 9,622 from 6,803.

Summer

“We’re getting into the summer. We could be very busy or very quiet. It’s hard to tell,” said Matt Rosenberg, head of trading and strategic initiatives at Halo Investing.

“Last month, people have been sitting on the sidelines. We had such a strong rally. Investors were bullish and upbeat about the reopening.”

But last week marked a pause.

“If we continue to see weeks like last week, people may become a little bit more proactive toward structured notes, using them in a variety of ways in their portfolios.”

Bad week

Volatility made a sudden comeback last week following comments from the Federal Reserve on the economy, which apparently investors perceived as negative despite or perhaps because of their dovish tone. The Dow Jones industrial average finished 5% lower on the week, and the S&P 500 index dropped more than 4%.

It was the worst week since the beginning of the lockdown period and the bottom of the market on March 23.

Fed put

Federal Reserve chairman Jerome Powell on Wednesday said that the stimulus will continue for the foreseeable future as long as the negative economic impact of the coronavirus will be felt.

“We’re not even thinking about raising rates,” Powell said.

“We are strongly committed to using our tools to do whatever we can for as long as it takes.”

Worried about a second wave of Covid-19, investors on Thursday pushed down the S&P 500 index 5.9%.”

The Fed’s gloomy comments on the economy and the rising number of Covid-19 cases in the United States contributed to the market’s pessimism about the chances of a quick recovery.

“In the past, when the Fed was speaking, investors would get some kind of good surprise and you had a rally,” said Rosenberg.

“But we know everything at this point. Look at the amount of stimulus and the commitment to keep rates low for an undetermined amount of time.

“It’s like having a surprise party while the surprise element is gone. There is no surprise. The markets no longer get excited. It’s all priced in.”

Thursday’s deep sell-off may signal the limited ammunition of the Fed.

“So many new elements come into play in this market, the main one being Covid-19,” he said.

“You have a new wave of retail traders moving prices. It’s not just the government buying treasuries and corporate bonds. The market has changed significantly in 2020. How the Fed can have an impact now is unclear.”

Rates and pricing

One thing is certain however: low interest rates if the trend persists will affect issuance volume for notes, he said.

In March, the Fed decided to lower the target range for the Federal Funds rate to 0% to 0.25%.

“At the time, credit spreads were still a little bit elevated. But now funding rates are starting to reflect the lower rate environment, which really hurts pricing,” he said.

“That means the underlying volatility is dictating more what the payoff offers.

“Some structures that don’t have sensitivity to volatility like uncapped leveraged notes are not showing very attractive terms at the moment.”

To be sure, highly volatility sensitive autocalls dominated the market last week, making for 63% of notional sales.

Leverage was quasi-absent with 3% of the total, a significantly low share. Data however is subject to revisions, and more deals may have priced after deadline.

Indexes dominate

The top eight deals last week were all tied to equity indexes for a total of $114 million, or 53% of the week’s notional amount.

Overall, equity indexes made for 68% of total sales.

Stocks

Single stocks amounted to 19% of the total, the data showed.

The most commonly used names were Amazon.com, Inc., Bank of America Corp., Citigroup Inc., JPMorgan Chase & Co., Southwest Airlines Co. and Uber Technologies, Inc.

The largest sized stock deal was a $6 million autocallable note from UBS AG, London Branch on Zoom Video Communications, Inc.

“Worst-of autocalls on single-stocks work best after a pullback. For many the lower price provides an additional margin of safety,” a market participant said.

A big digital play

Digital notes were popular last week with nine deals in this category totaling $52 million, or 17% of the total.

It was in large part the result of the top trade, an in-the-money barrier digital product.

“One good thing about digitals is that they’re easy to explain to people who are new to structured notes and want to get downside protection,” said Rosenberg.

Canadian Imperial Bank of Commerce priced the top deal with $38.25 million of 0% digital notes due Feb. 3, 2022 linked to the S&P 500 index.

If the final index level is at least 90% of its initial level, the payout at maturity will be par plus 16% Investors will lose 1.1111% for each 1% index decline beyond 10%.

“Digitals give you a binary outcome: the market is up, you get paid. The market is down, you don’t. Maybe this one is a little bit more difficult to explain only because of the geared buffer. But for many who don’t want to be confused with a complex payout, it’s the kind of note that’s relatively easy to sell to a new investor, especially compared to an autocallable or a worst-of,” he said.

Russell and S&P

Next, Barclays Bank plc sold $33.96 million of trigger autocallable contingent yield notes due June 15, 2023 linked to the Russell 2000 index and the S&P 500 index.

The notes will pay a contingent quarterly coupon at an annual rate of 9.75% if each index closes at or above its coupon barrier, 70% of its initial level, on the observation date for that quarter.

The notes will be called at par plus the coupon if each index closes at or above its initial level on any quarterly observation date after six months.

The barrier at maturity is 70%. UBS is the agent.

“S&P and Russell is a very popular underlying basket,” Rosenberg said.

“Volatility on the Nasdaq continues to compress. If you want a defined outcome with downside protection, the Russell is probably your best bet because it’s the most volatile one. For that reason, people like to combine the Russell with the S&P.”

Worst-of autocallable contingent coupon notes remained in very high demand.

“Worst-of work really well on autocallable contingent coupon at least if you have a range bound view. The assets don’t have to be positive, and they pay more coupon,” said the market participant.

Revcons in demand

Reverse convertibles paying a fixed rate were also heavily bid. This structure type is resurging.

A few examples indicated an increasing use of indexes in these deals, which brings deals to greater sizes.

Nearly a quarter of last week’s volume was reverse convertibles with 13 deals totaling $71 million.

As an example: UBS priced on the behalf of GS Finance Corp. $30.21 million of one-year 5.06% reverse convertibles linked to the S&P 500 index with interest payable monthly. After three months, the notes are callable any month at the issuer’s discretion.

The European barrier at maturity is 55%.

Also, UBS AG, London Branch priced $20 million of 7.65% buffered income autocallable securities with downside leverage due June 15, 2021 linked to the worst performing of the SPDR Dow Jones Industrial Average ETF Trust and the SPDR S&P 500 ETF Trust. The notes are automatically called quarterly above initial price. The downside threshold level at maturity is 80% of the initial level of the worst-performing ETF.

Morgan Stanley is the agent.

Another reverse convertible deal was UBS AG, London Branch’s $13.77 million of two-year 4.7% trigger callable yield notes on the Dow Jones industrial average. Interest is payable monthly, and the notes are callable after three months.

The downside threshold at maturity is 55%.

The top agent last week was UBS with $113 million in 85 deals, or 38% of the total.

It was followed by Morgan Stanley and JPMorgan.

The top issuer was UBS AG, London Branch with 82 deals totaling $73 million, a 24.3% share.

For the year, the No. 1 issuer is Barclays Bank plc with $4.57 billion in 951 deals, or 14.3% of the total.

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