Structured products issuance ends with $1.11 billion tally for week; pace of supply slows

By Emma Trincal

New York, Sept. 2 – Agents – especially Bank of America – concluded August on solid footing with $1.11 billion of structured products priced in 218 deals, according to data compiled by Prospect News. August, however, was the weakest month of the year with $2.23 billion followed by July ($3.31 billion) and February ($3.70 billion).

On a weekly basis, the final week of August was the worst compared to all other closing weeks.

July and August this year were particularly slow, accounting together for $5.54 billion as of Aug. 28 versus $7.23 billion for the same period last year, a 23% decline.

At the end of June, the year-to-date volume was up 15% from last year. Now, the advantage has diminished to less than 7% with $30.51 billion priced this year versus $28.56 billion, according to the data.

Bad summer

“It’s depressing to see that we have now lost almost half of the lead we had before. It’s been a disappointing summer,” a market participant said.

Things would have been much worse without the input of Bank of America, he said.

BofA Merrill Lynch priced $493 million in only 13 deals, or 44.5% of the total volume last week. It also sold the six largest offerings.

“What those guys are doing month after month is quite formidable. They did almost half. Every time they close the month, they completely take over,” he said.

“Does it mean the rest of the market is doing poorly? You can’t even think along those lines because you can’t take [Bank of America] out of the equation. They dominate this market.

“Also it’s a difficult market for everyone. In times of uncertainty, investors stay away from the market. They’re just scared.”

Black-Monday like

Last week brought a fair amount of fear in the market, he said.

Sentiment turned negative over China’s Shanghai stock market sell-off and the timing of the Fed’s anticipated interest rate hike.

Monday, Aug. 24, showed an unprecedented type of volatility, leading some analysts to compare it to 1987’s “Black Monday.”

The Dow Jones industrial average plunged more than 1000 points at the open, its biggest one-day point loss ever.

A recovery rally in the afternoon brought back the benchmark to breakeven.

Meanwhile the VIX index, or “fear gauge,” hit its highest level for the year at 53.

The following day stocks rallied in the morning to turn around in the afternoon but selling resumed at the end of the day.

The benchmarks were in correction but ended the week up approximately 1% for the Dow and the S&P 500 index.

“It was a real roller-coaster. But is it going to last? To me it looks more like a knee-jerk reaction,” the market participant said.

“Once the uncertainty is removed and if the market continues to fluctuate without a real trend structured products will become more popular.

“If you have a clear bull or bear market, there is not a real incentive to buy structured products. You’re either long the market or out of it.

“But if you continue to have up-days and down-days, people are going to need some of the benefits of structured products in terms of protection for instance.”

Leverage pricing

Leveraged deals were the most favored deals last week, making for 55% of the total. Leverage with no protection represented 30.5% of the total while those with a buffer or a barrier made for 24.5%.

There was only one small deal that offered full principal protection: Goldman Sachs Group, Inc.’s $1.23 million of 10-year notes linked to the GS Momentum Builder Multi-Asset 5 ER index with 4.25 times leverage and no cap.

“Of course you can’t do full principal protection. Bond yields are down. When volatility spikes and interest rates go down it makes principal-protection much harder to work,” the market participant said.

He explained that leveraged capped notes with no protection are easier to price when volatility is up.

That’s because the issuer gets a higher premium when selling calls to structure the cap.

“Pricing should work better on those types of deals because you sell volatility. If anything, pricing conditions should have been pretty good last week. But investors must have been worried. They have a wait-and-see attitude,” he said.

Leaders

The top two deals were leveraged capped notes with no downside protection.

The No. 1 deal was HSBC USA Inc.’s $155.1 million of 14-month leveraged notes linked to the S&P 500 index.

Investors had a three-to-one exposure to the index on the upside up to a 12.27% cap with full downside risk.

The second deal was also a 14-month note with three-times upside leverage and no downside protection. AB Svensk Exportkredit issued the notes for $78.43 million. Investors were exposed to the Euro Stoxx 50 index up to an 18.45% cap.

It was the first deal to be issued by AB Svensk Exportkredit this year, according to the data.

“Bank of America always uses different issuers. They pride themselves in having different issuers so they can help diversify the credit risk,” the market participant said.

Flash crashes

A sellsider said that investors had to deal with exceptionally difficult market conditions last week.

“You have two types of investors: those who are suffering and those who are taking this market as an opportunity,” this sellsider said.

“It’s tough though to invest in this environment because the volatility itself goes up and down in major ways,” he said.

“This type of volatility that we’re seeing is really the result of target volatility strategies which institutional investors and hedge funds are using a lot right now. Once volatility goes up, the index algorithms are forced to sell volatility automatically to maintain the volatility target.

“When you sell volatility in a weak market you can get those mini-crashes that we’ve seen with JPMorgan and GE.”

He was referring to the share price of both JPMorgan and General Electric dropping about 20% at the open of Monday, Aug. 24.

“This is one of the reasons I always advocate European style barriers, which can only be observed at maturity,” he said.

The third-largest deal was an autocallable market-linked step-up, one of Bank of America’s most popular structures.

HSBC priced $53.66 million of three-year notes in this category linked to the Euro Stoxx 50 index.

The notes will be automatically called at par of $10 plus a call premium of 14.3% per year if the index closes at or above the initial index level on Sept. 2, 2016 or Aug. 18, 2017.

If the notes are not called, investors will receive par plus the index gain if the index closes above 130% of the initial price and will receive par plus 30% if the index gain is below the 130% step level. Investors will be fully exposed to the index decline.

After Bank of America, the second top agent was JPMorgan with $226 million in 60 deals, or 20.35% of the total. It was followed by Morgan Stanley with 10.68% of the market priced in 22 deals totaling $119 million.

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