Morgan Stanley's uncapped trigger jump notes tied to Euro Stoxx: good terms but risky exposure

By Emma Trincal

New York, Aug. 6 - Morgan Stanley's 0% uncapped enhanced trigger jump securities due August 2017 linked to the Euro Stoxx 50 index offer an attractive structure, according to buysiders.

Nevertheless, the credit risk over a five-year period, the absence of a hard buffer and the exposure to the euro zone make the product an unlikely fit for more conservative investors.

If the index's final level is greater than the trigger level, 50% of the initial level, the payout at maturity will be par of $10 plus the greater of the index return and the fixed percentage, which is expected to be 38% to 43% and will be set at pricing.

If the index's final level is less than or equal to the trigger level, investors will be exposed to the index's decline in full, according to a 424B2 filing with the Securities and Exchange Commission.

No megabear

Michael Kalscheur, financial adviser at Castle Wealth Advisors, said that given the structure of the notes, the five-year maturity is beneficial to the investor.

"It's a roll of the dice worth taking. And that's because it's over a five-year period," he said.

"Over a one-year period, even uncapped and with a 10% buffer, I wouldn't even look at it."

Notes that do not guarantee the return of any portion of principal, as buffered notes do, are usually not in favor at his firm.

But the 50% barrier is eye-catching.

"We are usually not interested in notes without a buffer. We use structured products as a risk reducer. This is not a risk reducer, but it tells a compelling story," he said.

"I'm not a huge bull on the Euro Stoxx 50, but you would have to be a megabear to say the index is going to be down 50% five years from now.

"The companies in the index are huge multinational companies that are likely to stand on their two feet the same way Sony or Toyota, for instance, do quite well independently of Japan."

The top holding in the index is Total, the French oil company with a $110 billion market capitalization.

Uncapped upside

Kalscheur said that he also likes the enhanced return potential.

"If the deal was just about the downside protection, it may not be so interesting. But to know that even if you're down a lot, down anywhere up to 50%, you can still get at least 7% to 8% annualized in return, that's very appealing," he said.

"You can also do better because your upside participation is unlimited. I like the uncapped return.

"Finally, the fact that it's a point to point and that you don't have to worry about breaching the barrier during the term is a very big plus for the investor.

"The terms of this deal are very good. My biggest fear would be that Morgan Stanley has a problem in the next five years because five years is a long time. We do pay attention to credit risk."

Kalscheur said that if his firm had a different mandate, he would probably consider the notes.

"We have a strict risk-reduction focus. If the note doesn't have a buffer, we won't consider it. But that's just us. Objectively, it looks like a great product. It provides a pretty well balanced opportunity," he said.

Euro uncertainty

Elliot Noma, managing director at Garrett Asset Management, LLC, also likes the product terms.

"The structure seems quite reasonable," he said.

"I haven't done the risk/return analysis, but on the surface it looks like a good product."

His biggest concern is the financial and political risks associated with an exposure to the euro zone.

In particular, Noma said that the rules governing the index construction should be taken into consideration.

"What happens if the euro zone breaks apart? Is the index getting reconstructed? What do you end up actually buying? To me, it's more of an index question because you are locked in for five years. For five years, you are committed to whatever constitutes the index," he said.

The allocation to various countries and sectors also presents some risks, he noted. For instance, Italy and Spain together represent 20% of the index. The financial sector, including banks and insurance companies, also has a 20% weighting.

"If the euro zone breaks up, many of these banks will be taken over by the governments. Governments and banks are now so tied together it's unclear what would happen in a euro meltdown scenario," Noma said.

"But I guess these weightings are standard for the euro zone. No big surprise here. The countries are what they are; the sectors are what they are.

"The issue becomes what level of exposure you have in the case of a major credit event, a break-up of the euro zone.

"There is a great deal of uncertainty in terms of the willingness of Germany and also France to be able to take the political pain in order to support the euro zone. And also, what type of mandate does the ECB really have?

"Do you want to be locked in for five years in this situation?"

Morgan Stanley & Co. LLC is the agent.

The notes will price in August and settle three business days later in September.

The Cusip number is 61755S529.

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