Volume falls for week, month as investors shy away from risk, yet search for yield persists

By Emma Trincal

New York, Nov. 16 - Volume dropped last week and for the month to date as investors shied away from risk, sources said.

The market continued to whipsaw along as volatility spiked midweek and then decreased. The broad market oscillated between fears of an intensified European debt crisis and hopes for a resolution with leadership changes in Greece and Italy.

For structured products investors, the tendency is to stay put, a structurer said.

"The market theme is risk aversion," he said.

Weaker volume

Volume, in the second week of the month ended Friday, fell 77.5% to $109 million in 35 deals from $486 million in 77 deals during the week before.

The data does not include exchange-traded notes.

The Veterans Day holiday didn't impact volume much: Half of the 35 deals priced on that day, according to the most recent data compiled by Prospect News.

The month-to-month figures - Nov. 1 to Nov. 12 compared to Oct. 1 to Oct. 12 - revealed a declining pattern as well. Issuers priced $511 million this month, a 14.21% decrease from the $596 million sold last month.

Deals tend to have decreased in size as well.

Agents sold 11 deals in excess of $10 million in the week ended Nov. 4 versus only three last week.

For the month, eight deals in excess of $20 million priced last month but only four this month.

News remained good for the year, though.

Issuance to date continued to exceed last year's volume. It grew 11.52% to $37.58 billion from $33.7 billion last year, according to data compiled by Prospect News.

Risk aversion

But for now, sources said that market turbulence is causing "resistance" or "a lack of interest" among investors.

"If people wanted to buy the product, we would sell it," a sellsider said.

"There's a decreased risk appetite. That's for sure.

"People are risk averse, and it contributes to the weaker volume more than anything else."

The structurer agreed.

"People stay on the sidelines. Only people who have discretionary power like asset managers are doing things. But advisory clients are not doing anything," he said.

Canadian banks

One strategy to reduce counterparty risk is to look for issuers with solid credit ratings.

"People avoid some banks that have credit issues," the structurer said.

Royal Bank of Canada was not one of them, according to investors' interest in this issuer last week. The Canadian bank issued eight deals last week, or nearly one out of four.

In addition, RBC brought to market the top deal of the week as well as the third and fourth largest ones.

"RBC is rated AA. It's not a risky counterparty," the structurer said.

"All these Canadian banks are highly regarded in the structuring world. They haven't suffered any crisis, they haven't been exposed to bad assets, and they are from" a commodity-exporting country.

"I've done my two first products with RBC last month," he said.

But risk was not the only culprit for the slow issuance pace. The structurer also invoked the calendar.

"The end of the year is approaching. Most have closed their books. Compensation plans have been set based on current results," he said.

"Everything going on now counts for the next year.

"Traders are not keen on booking deals that wouldn't count for their compensation.

"This year is more or less done."

In spite of that, investors continued to show some appetite for yield enhancement products.

Worst of

As an example, worst of deals were in fashion last week. Those structures are a variation of a reverse convertible with two or more underlyings in which the investor sells a put linked to the worse-performing underlying.

The structurer explained that those products typically pay higher coupons because investors, long correlation, take an additional risk - and therefore earn more in premium - if the correlation between the different underlyings decreases or becomes negative.

"Those products sell well because with that you can still increase the coupon. It's a marketing argument," he said.

The worst of deals that priced last week did not exceed $5 million in size. But the number of offerings was noteworthy. Seven deals out of last week's 35 were worst of issues, or one deal out of five.

Not just one or two agents but several were involved in marketing those structures, including Credit Suisse, UBS, JPMorgan, HSBC and Citigroup.

"People have a very short memory," the structurer said.

"Worse of work when volatility is high and you expect it to fall. But this environment is not pointing to lower volatility, and people are taking on a fair amount of risk.

"You, as an investor, get a premium for taking on the risk of getting the negative performance of the worse underlying.

"But you usually don't get compensated enough for taking that risk.

"Investors forget the crisis of 2008 when 90% of the worst of were triggered."

He also noted that from the standpoint of the issuer, worse of issues have not been easy to hedge.

"[The bank] is short correlation and long dividend. In 2008 when correlation spiked and some stocks skipped paying dividends, [they] got burned."

But the sellsider disagreed, saying that worse of issues are not necessarily more risky than reverse convertibles.

"Unlike most reverse convertibles, the worst of is typically on indexes, not on a stock," he said.

"So the idiosyncratic risk is not that acute.

"You could say that worst of are risky products, but the underlying that's being referenced tends to be safer than what you have in a reverse convertible."

The picture for traditional reverse convertibles was mixed.

On a year to date basis, sales fell by 18% to $4.78 billion this year from $5.82 billion during the same time last year.

Trigger reverse convertibles

"Reverse convertibles have been hit quite badly. A lot of them were linked to bank stocks, and those are down 30%, 40%. More often than not, those deals have hit their barriers," the structurer said.

Reverse convertible volume also fell last week to $31 million from $39 million, down 20.5%.

Yet, signs of recovery are emerging as reverse convertible sales nearly tripled to $69 million so far in November compared to $20 million last month.

"There's always a segment of the population looking for yield," said the sellsider. "JPMorgan, Barclays, Royal Bank of Canada, they're strong in that business."

"You still see reverse convertibles because people tend to be greedy. They want the high yield," the structurer said.

Just about every structure category recorded a decline last week from the week before.

For instance, leveraged return notes with partial principal protection - while remaining the dominant product with 35% of the volume - declined by 75% to $38 million.

Not one asset class gained in volume last week compared to the week before.

Sources said that it may be because the prior week included Oct. 31, the last day of the prior month.

Equity sales last week fell 73% to $96 million from $351 million. In that category, equity index-linked notes dropped the most, down 78%, but remained the top asset class with 58% of the volume. Stocks, which accounted for 29%, fell by 51% to $32 million.

No commodity-linked note (excluding ETNs) was priced last week.

Top deals

RBC priced the top offering: $19.49 million of 0% buffered bullish enhanced return notes due May 15, 2013 linked to the S&P 500 index.

The payout at maturity will be par plus 1.5 times any gain in the index capped at 23.43% with a 10% buffer on the downside.

RBC Capital Markets LLC was the agent.

The second deal, another leveraged buffered note, was Eksportfinans ASA's $16.5 million of 0% enhanced growth securities with capped upside due Nov. 16, 2012 linked to the S&P 500 via Wells Fargo Securities, LLC.

The leverage factor is 1.5, the cap is 12.75%, and the buffer is 20% with an accelerated loss of 1.25% per 1% drop of the index beyond 20%.

RBC priced the No. 3 deal, its $10.83 million of 10.47% annualized airbag yield optimization notes due May 17, 2012 linked to JPMorgan Chase & Co. shares. This reverse convertible variation, with a 75% barrier, was distributed by UBS.

The top agent last week was UBS with $29 million sold in 13 deals for 26.15% of the total.

It was followed by RBC Capital Markets and Wells Fargo.

Bank of America was No. 1 the week before.

"There's a decreased risk appetite. That's for sure." - A sellsider

"You still see reverse convertibles because people tend to be greedy." - A structurer

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