Credit Suisse, Barclays bring defensive leveraged notes linked to Euro Stoxx 50 aimed at bulls

By Emma Trincal

New York, June 30 – With the ranks of Europe bulls growing, issuers are pricing uncapped leveraged notes linked to the Euro Stoxx 50 index that include various levels of protection.

The uncapped upside and protection are made possible by the amount of dividends paid by the index, which issuers can use to price the options, sources said.

The Euro Stoxx 50 index has a 2.67% dividend yield, compared with 1.81% for the S&P 500 index.

Two notes offer examples of deals that include leveraged and uncapped upside and some protection on the downside.

In the first example, Credit Suisse AG said it plans to price 0% Buffered Accelerated Return Equity Securities due July 31, 2018 linked to the Euro Stoxx 50.

The upside leverage factor will be 1.2 to 1.25 times, according to a 424B2 filing with the Securities and Exchange Commission. On the downside, investors will receive par if the index falls by up to 15% and will lose 1% for every 1% that the index declines beyond 15%.

The other example is Barclays Bank plc’s $10.41 million of 0% trigger performance securities due June 28, 2019 linked to the Euro Stoxx 50.

With this deal, investors have more upside leverage (1.971 times) and get a 75% barrier on the downside, according to a 424B2 filing with the SEC. For any decline beyond 25% though, investors are fully exposed to the decline in the index from its initial level.

Two different styles

Carl Kunhardt, wealth adviser at Quest Capital Management, said that both notes could be used in his portfolio.

“Both are nice notes. I would just use them both but for different clients,” he said.

“The first step would be to go back to basics: what’s my outlook on international equity, in particular the Euro Stoxx 50, which is essentially their Dow Jones?

“I happen to have a positive outlook on this asset class, which means that I would allocate money to it anyway.

“That’s a first reason to consider the notes.”

The two products are relatively comparable, he said. Both offer exposure to the same index, both have leverage on the upside and no cap and both provide investors with some level of protection.

“The Credit Suisse note has a 15% buffer. The Barclays gives you 25% in protection, but that’s a contingent protection,” he said.

“For a more moderate investor, I would use the Credit Suisse because of the buffer. It brings an element of safety to the notes. I’m not looking for a home run. I get a nice kick on the upside, full downside protection on the downside. By full, I mean that this 15% protection is solid. It’s not going away. So I have some protection on an asset class I would have exposure to anyway,” he said.

“For a more aggressive investor, I would pick the Barclays note. Even though it’s a barrier, your investment is protected relative to just holding the shares long.

“I do take the risk of losing my downside protection after a 25% loss, but I’m going to get more upside.”

Bullish

The difference in leverage factor is one of the main differences between the notes.

“One gives you double the exposure versus 1.2 times for the other,” he said.

“But the big difference between the two notes is on the downside.

“The barrier note gives you protection to a greater extent, but once you breach the barrier, you’re going to be fully exposed. That’s why I would use it only with my more aggressive clients.”

For bullish investors seeking to outperform the index while getting some downside protection, the notes offer an attractive alternative to equities, he said, providing that investors agree to give up dividends and liquidity.

“Both are nice notes. Both pursue the same bullish objective. Both give you a nice profile for a different kind of clients,” he said.

“The uncapped upside is very attractive.

“The four-year or five-year terms are not a concern for me. Notes are all coming out as four-year, five-year right now. You’re not getting any shorter duration anyways. And when you’re dealing with equity, the longer term is always safer.

“The likelihood of getting a market correction five years from now is lower than over two years.

“The only downside is to be locked up. But where else would you put this money since it’s part of your asset allocation anyway?”

Two-times is best

Jim Delaney, head trader at Market Strategies Management, finds the bullishness of both notes attractive and said the protection is probably not a requirement, at least not for him.

He said he prefers the barrier note with nearly two-times leverage rather than the more conservative buffered product with no more than 1.25 times upside.

“I would opt for the note with the highest leverage. I think in five years if the Euro Stoxx is down 25%, we’ll have much bigger problems. I’d rather have close to two-times. I don’t think the protection is going to be needed, and I’d rather get the bigger upside. There’s a significant difference between 1.2 and 2 times.”

Bullish on Europe

Even the nature of the protection is not all that relevant in his mind.

“I’m not so much concerned about comparing the two levels of protection – 15% or 25% – or the fact that one is persistent and the other can go away. None of that really matters to me,” he said.

“Obviously, the protection has value from a quantitative standpoint because you have an embedded option there. But from a practical standpoint, I don’t see any of these two buffers coming into play.”

This view reflects his strong bullish bias on Europe, he said.

He pointed to last week’s speech from James Bullard, president of the Federal Reserve Bank of St. Louis, who indicated that the Fed may raise interest rates as early as in the first half of 2015.

“The hawks are talking about speeding things up. Meanwhile in Europe, they’re not talking about tightening at all. They’re talking about extraordinary measures,” he said.

“Many strategists consider that the euro zone economy will rebound because they are likely to hold rates lower for a longer period of time. The Europeans are heading toward accommodative policies. They are at the beginning of the easing cycle. We’re talking more about tightening.”

The differences in monetary policy priorities between the two regions is one key driver behind the bullish sentiment around European stocks, he said.

Buffers: not a priority

“On a relative basis, I see the Euro Stoxx outperform the S&P at least for the next one to two years,” he said.

“I know the maturities of these notes are longer, but the acceleration of the European market performance early on should make the Euro Stoxx index higher five years out.

“Say that for the next two years, we’re growing at 5% a year and they grow by 10% and then everybody goes 5%. They would still be ahead of us. This is just an example to make my point.

“As I don’t consider those buffers as very relevant – I know they have an economic value – but from my view on the market, from the way I’m thinking, I don’t see them coming into play and as a result of that, if I had to pick one note, I would go with the most bullish of the two.”

Credit Suisse Securities (USA) LLC is the underwriter of the Credit Suisse notes (Cusip: 22547QPY6), which are expected to price July 28 and settle July 31.

The Barclays notes (Cusip: 06742W885) priced June 26. UBS Financial Services Inc. and Barclays were the agents, and the fee was 3.5%.

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