Citigroup's strategic market access notes linked to energy-related MLPs are non-ETN novelty

By Emma Trincal

New York, July 26 - Citigroup Funding Inc.'s upcoming notes linked to a basket of energy-related master limited partnerships offer access to the energy MLP asset class via a standard structured note instead of the current vehicle of choice used by other firms - the exchange-traded note, sources noted, debating the value of one format versus the other.

Unlike the five ETNs currently in the market, these notes are not linked to an MLP index but to a basket of MLPs.

The company plans to price 0% strategic market access notes due September 2011 linked to the common units of El Paso Pipeline Partners, LP, Energy Transfer Equity, LP, Enterprise Products Partners LP, Inergy, LP, Magellan Midstream Partners, LP, NuStar Energy LP, NuStar GP Holdings, LLC, Oneok Partners, LP, Plains All American Pipeline, LP, Regency Energy Partners LP, Spectra Energy Partners, LP, Suburban Propane Partners, LP, Targa Resources Partners LP, Teekay Offshore Partners LP and Western Gas Partners, LP.

The basket is equally weighted, and the basket components will be rebalanced to equal weighting approximately six months after pricing. according to a 424B2 filing with the Securities and Exchange Commission.

The payout at maturity will be the net investment value on the third trading day prior to maturity.

On the pricing date, the net investment value will be $990 per note. On each subsequent trading day, the net investment value will be (A) (i) $990 multiplied by (ii) the basket return percentage, which compares the value of the basket on that trading day to its value on the pricing date plus (B) any accrued dividends up to and including that trading day minus (C) the 1% per year basket adjustment factor calculated up to and including that trading day.

The $10 difference between $990 and $1,000 is the equivalent of a 1% underwriting fee paid by the investors, according to the prospectus.

The adjustment factor represents an additional 1% per year fee for this one-year note.

Interest will be payable quarterly. The interest rate will be 0.2% per year plus the total amount of ordinary cash dividends with respect to the basket components for which an ex-date has occurred during each quarterly interest period, if any, for each $1,000 note.

Short-term deal

A market participant, comparing the notes' tenor with the long-term maturity of a typical ETN, pointed to the reinvestment risk.

"I'm not sure why anyone would buy it. It's a one-year product, so you have to buy something new after one year," he said.

Cost

He also said that the notes - with the 1% sales charge - were "more expensive" than their ETN counterparts, whose yearly fee is less.

"All five ETNs have an annual fee of 85 basis points. It's cheaper, and you can hold them forever," he said.

The five ETNs linked to MLP indexes brought to market so far include JPMorgan Chase & Co.'s $904.24 million of ETNs due May 24, 2024 linked to the volume-weighted average price level of the Alerian MLP index.

Since April, UBS AG, Jersey Branch has priced $200 million of exchange-traded access securities due April 2, 2040 linked to the Alerian MLP Infrastructure index.

UBS this month rolled out two variations of its main product with $100 million 2x monthly leveraged long E-Tracs due July 9, 2040 linked to the Alerian MLP Infrastructure index and $100 million of E-Tracs due July 9, 2040 linked to the Alerian Natural Gas MLP index.

Finally, Credit Suisse AG, Nassau Branch has priced $57.38 million of 0% ETNs due April 20, 2020 linked to the Cushing 30 MLP index.

Less liquid

The main difference between the Citigroup notes and the five ETNs is primarily liquidity as the Citigroup notes, unlike the ETNs, will not be listed on an exchange.

Citigroup "intends to make a secondary market for the notes," yet "is not obligated to do so," according to the prospectus.

"Even if a secondary market does develop, it may not be liquid and may not continue for the term of the notes. If the secondary market for the notes is limited, there may be few buyers should you choose to sell your notes prior to maturity and this may reduce the price you receive," the prospectus stated.

Those terms are similar to other standard structured notes but should remind investors that there is less liquidity with the notes than there is with an ETN, sources said.

"The client has to go to Citi to get a bid to sell it. And who knows what the bid is going to be," the market participant said.

"A structured note is a negotiated instrument. It's more beneficial to the issuer because they control the pricing," a financial adviser said.

However, the use of a basket of securities instead of an index is not necessarily a negative, the financial adviser said.

Customized portfolio

"Doing a basket allows you to customize it, while an index is someone else's product. You don't control it. So that's the biggest advantage," the financial adviser said.

Investing in an underlying basket requires work, though, he said. "You have to do your due diligence in order to understand what's in the basket and what exactly you're investing in," he said.

"It can be a disadvantage if you don't have the resources to do the analysis."

Volatility pros, cons

However, potential returns could be the payoff, he said.

"A basket tends to offer more volatility than an index because it has fewer constituents," the financial adviser said.

The Citigroup notes are linked to a basket of 15 energy-related MLPs. In comparison, the Alerian MLP index has 50 constituents; the Cushing 30 MLP index, 30; and the Alerian MLP Infrastructure index, 25.

Some indexes are the exception, such as the Alerian Natural Gas MLP index. As a sub-index it only has 15 natural gas infrastructure MLPs. But indexes in general are broad, by definition, the adviser said.

"Any time you have fewer constituents, you'll get greater volatility because any position will have a far greater effect on the entire basket. It's clear when you compare the Dow Jones and the S&P 500," the financial adviser said.

"Volatility is the conundrum you find yourself in investing. With the exception of yield, the only way you make money is with higher volatility. It gives you the ability to control the delta. But it's a double-edged sword. It's a good thing when it gives you the returns. But it's also what keeps you up at night," he said.

Citigroup Global Markets Inc. is the underwriter.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.