Stock sell-off boosts structured products issuance to $1.31 billion; big Canadian trades seen

By Emma Trincal

New York, Oct. 31 – While the U.S. equity markets may have been nearing correction territory in a climax sell-off last week, the bid for structured notes remained strong. October so far outpaced September, according to preliminary data compiled by Prospect News.

Agents priced $1.31 billion in 179 offerings in the week ended Friday, which marked the official closing of the month, at least for top-seller Bank of America. This agent in just 24 deals sold 58% of total volume with $761 million, according to the data.

Month, year

The month through Oct. 26 saw a jump in notional sales of 27% to $3.45 billion from $2.72 billion during the same time in September. The difference may be due to two final days in September during which BofA Merrill Lynch priced some of its deals while last week may have concluded October business.

Month-end figures will offer a final answer.

“I knew October would be a big month for structured notes sales. After the summer, you always see a pickup in volume,” a sellsider said.

Growth is also visible on a year-to-date basis. Issuance volume continued to be stronger this year with $47.92 billion through Oct. 26 from $42.70 billion last year, a 12.2% increase, the data showed.

Panic selling

Equity markets dropped globally last week. On Oct. 26, the decline led the S&P 500 index to turn negative intraday for the year. The index was nearly down 10% from its last peak in September, being on the edge of a correction while the Nasdaq Composite already reached that point.

Volatility as measured by CBOE VIX index jumped 30% on Wednesday from the beginning of the week, closing above 25 midweek.

Opportunity buying

“You would think people would get scared with a vol. spike like that. October was a terrible month for the stock market. But despite the wild ride, investors continue to buy structured notes. It would take a lot more pain for people to stop buying them,” a structurer said.

“Right now, they see buying opportunities. Many are still bullish and expect a year-end rally.”

The sell-off extended this week through Monday. But the market has rallied since then.

Big leverage

Last week saw exceptionally large leveraged notes offerings brought to market by BofA Merrill Lynch and issued by Canadian banks.

The size of those deals changed the balance between leveraged products and autocallable contingent coupon deals, which accounted for 52% and less than 10% of the total notional, respectively.

The annual distribution on average is relatively even at 31% and 34%, respectively, according to the data.

“Autocalls price very well when vol. goes up since you’re selling the premium. But there were an awful lot of capped leveraged notes last week, and those structures benefit from high volatility as well,” the structurer said.

“Whether you’re talking about autocalls or capped leveraged deals, all those structures are negative vega, meaning the higher the volatility, the better the terms.

“Optically they look very good.”

Vega is a “Greek” in option jargon. It measures an option’s sensitivity to implied volatility moves.

The big leverage component of last week’s supply however was probably more the result of BofA Merrill Lynch’s dominating presence.

“Those guys focus on these kinds of leveraged deals so a lot of people got in,” the structurer said.

The supply of leveraged notes was split in equal parts between leverage with no downside protection and leverage featuring barriers or buffers, according to the data.

The top deal last week belonged to the first category.

CIBC, Scotia

Canadian Imperial Bank of Commerce priced $157.71 million of two-year leveraged notes linked to the S&P 500 index.

The upside is double any index gain, capped at 17.92%. Investors benefit from a 10% buffer on the downside.

The second deal fell in the other group.

Bank of Nova Scotia priced $148.4 million of 14-month notes tied to the S&P 500 index. The payout on the upside is triple any index gain, subject to a capped return of 13.2%.

“I think the top one with a buffer is more interesting. Folks are looking for that downside protection as a result of the sell-off. While 3x is awfully appealing and resonates with the bulls, it’s a slight departure from what we’re seeing,” the sellsider said.

Risk versus protection

“We’ve found an uptick in issuance coming from deals that offer downside protection opportunities and less leverage. That’s the bottom line.”

But there is also a rationale behind the demand for riskier leveraged products.

“When deals come without protection, buyers may value the low entry. Buying a leveraged note with no buffer today is like buying a 10% buffer a month ago,” he said.

Issuers last week also introduced more defensive deals.

Bank of Nova Scotia priced $55.29 million of six-year principal-protected notes linked to the Dow Jones industrial average paying the index return up to a 61% cap. It was the sixth largest deal.

Three monster rates

Another way to protect principal is to opt for interest-rates linked notes, which return full principal at maturity.

Last week saw a trio of unusually large rates deals. All were 10-year fixed-to-floating deals paying a quarterly rate with a 5% fixed-rate on the first year followed by a variable rate equal to a 10-year rate plus a spread on the nine following years.

Wells Fargo & Co. priced the top one for $100 million. The deal was based on the 10-year Constant Maturity Swap rate. The spread is 60 basis points.

Citigroup Inc. followed with the same structure for $75 million. The spread over the 10-year CMS is 74 bps.

Finally, Bank of America Corp. sold $50 million linked to the 10-year U.S. dollar ICE swap rate. The structure is the same but the spread is 60 bps.

Convert on gold

Another contributor for last week’s large issuance volume was the presence of a giant synthetic convertible deal, as seen earlier this year.

Barclays Bank plc priced $102 million of 0% five-year synthetic convertible notes linked to Newmont Mining Corp. share price with a threshold value that is 123% of the initial share price.

Canadian issuers top

Last week’s top issuer was CIBC with $292 million in seven deals, all of which were distributed by BofA Merrill Lynch.

Bank of Nova Scotia was next since it priced the No. 2 deal for nearly $150 million.

In total, Canadian banks issued $601 million in 23 deals, or nearly half of the volume.

BofA Merrill Lynch was the agent for 93% of those Canadian banks-issued volume.

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