Agents price $1.32 billion of structured products, ending a strong January amid bull market

By Emma Trincal

New York, Feb. 1 – Structured products issuance rose from a year ago last week, suggesting that the current rally continues to have a positive impact on market sentiment, sources said.

Growth expectations as well as corporate earnings helped maintain the pace for the bull market with the Dow Jones industrial average finally breaking above 20,000 on Wednesday.

Agents priced $1.32 billion in 214 deals last week, boosting the volume to $3.24 billion for the first month of the year to Jan. 27, according to preliminary data compiled by Prospect News.

In comparison, sales amounted to $2.42 billion a year ago during the same period, a more than a third jump in volume, the data showed.

Figures however could change as the month is not complete. Firms, including Bank of America, were unlikely to have reported the totality of their deals at press time.

The top five offerings, all distributed by BofA Merrill Lynch, were block trades over $50 million in size. Those products were short-term bullish notes with high or no caps. Leverage or step-ups allowed investors to boost gains. But the products typically were not built with the purpose of protecting the downside, offering no buffer or barrier.

Investors’ willingness to invest without a net as the market is at all-time highs puzzled some market participants. But for the most part, it was business as usual at the end of a big month, others said.

Whether investors were willing to buy notes with no hedge out of sheer optimism or because they are used to seeing those deals is unclear. Sources tended to believe that the bullish climate helped.

“You don’t want to miss this huge rally,” said Paul Weisbruch, vice-president of options sales and trading at Street One Financial.

Leverage, steps

BofA Merrill Lynch priced 61.56% of the total sold last week, or $810 million in 27 deals.

Credit Suisse AG, London Branch’s $123.49 million of 14-month Accelerated Return Notes linked to the S&P 500 index, was the top deal. It offered a 300% upside participation up to an 11.31% cap. Investors were exposed to any index decline.

Bank of Nova Scotia’s $75.96 million of three-year autocallable market-linked step-up notes linked to the Euro Stoxx 50 index came next.

The notes were called at par plus an annual call premium of 14.6% if the index closed at or above its initial level on either annual call date.

If the index finished at or above the step-up level – 130% of the initial level – the payout at maturity would be par of $10 plus the index gain.

If the index gained by up to the step-up level, the payout would be par plus the step-up payment of 30%.

Investors were exposed to any losses.

Highly levered notes or step-ups are always selling best at the end of each month when BofA Merrill Lynch prices its deals.

“The market keeps on going up, up. Trump is doing controversial things, but the market remains bullish. It goes back up and up,” a sellsider said.

Friday however saw the S&P 500 drop as a result of a couple of disappointing earnings reports. Trump’s executive orders on immigration released on that day reintroduced some uncertainty, pushing down stock prices. But the benchmark was up for the week.

Bull run, volatility

Overall, market observers are perplexed over the very low level of the CBOE Volatility index at around 10. It was at 26 last August.

Some suggest the low volatility is an alarming sign of complacency in the face of an aging bull market constantly breaking new records. Others, as Weisbruch, see it as a sign that “the bull market has legs.”

But some just don’t know.

“There are too many things going on. I’m a bit puzzled by this low volatility that we have. I have to say there is no clear answer,” the sellsider said.

Weisbruch said that the market was bullish on solid ground as “fundamentals are beginning to catch up.”

The S&P 500 index jumped nearly 7% since the presidential elections.

“The Trump rally happened quickly and was significant,” he said.

“It was built on pro-growth expectations when Trump was elected as president. When you tell the market, regardless of your political view, that you’re going to cut taxes and lower regulations, people immediately think higher margins and lower compliance costs. That’s why financial stocks were on a tear, and also tech stocks. Small businesses in particular did well if you look at the Russell 2000.”

The small-cap benchmark has gained 17% since the November elections.

The exception, he said, was health care due to Trump’s talk about drugs prices.

“Overall, the market sentiment remains bullish,” he said.

In addition, the fundamentals are improving, he noted, pointing to mostly healthy corporate earnings, in particular Apple Inc., which reported strong profits on Tuesday for its fiscal first quarter 2017.

Greed is good

“It doesn’t surprise me that people would take more risk and try to follow the bull trend by giving up protection or hedges,” he said.

“If you filter the headlines, the economy is improving, earnings are improving. There’ nothing that’s bad so far.”

Investors appear more confident about taking risks than a few months ago, he said, despite high valuations.

“I think people are not expecting a big correction anymore. People who fear a correction in my view are those that have been sitting on cash missing the rally,” he said.

“Betting against this market rally has its cost. That’s why people are focusing on leveraging gains right now.”

The lack of volatility does not help structuring buffers or barriers, sources said. But pricing was not a factor behind investors opting for full-principal at risk structures.

“Look, the downside protection is never the driver, at least for those retail notes. On a short-term note, you start with the leverage...either no leverage or two-time, three time. Then you just see where people want the cap. Whatever’s left for the protection comes last. I have never believed the buffer is what drives the purchase,” the sellsider said.

“It could also be because there are broker deals. People are sold those products, they’re not buying them,” the sellsider said.

Other top sales

HSBC USA Inc. priced $51.39 million of 14-month Accelerated Return Notes due March 29, 2018 linked to the Russell 2000 index. It was the No. 3 offering.

The upside leverage factor was three, and the cap was 14.43%. There was no downside protection.

Another three-time leveraged deal was brought to market by Barclays Bank plc. The fourth in size, this $50.81 million offering of 14-month Accelerated Return Notes was linked to a basket of equally weighted finance stocks. Those were: Citigroup Inc., JPMorgan Chase & Co. and Morgan Stanley.

The payout at maturity was par of $10 plus 300% of any basket gain, subject to a maximum return of 22.8%. Investors were fully exposed to the downside.

Finally Bank of Nova Scotia issued the fifth offering: $50.69 million of three-year autocallable market-linked step-up notes linked to the Russell 2000 index.

The annual premium of 10.1% was observed annually based on the initial level.

The step-up level, at 30% of the initial level, gave investors a digital return of 30% when the index finished up to the step-up level and unlimited upside if it finished at or above it.

“We’ve seen those step-ups for a while. They’re not giving you leverage but a definite outcome within a price range, so that’s a form of return enhancement. No downside protection. They’ve been very popular. I guess Merrill has been very good at selling them,” the sellsider said.

The second agent after BofA Merrill Lynch was JPMorgan with $163 million in 53 offerings. It was followed by UBS, which priced 58 deals totaling $116 million.

“You don’t want to miss this huge rally.” – Paul Weisbruch, vice-president of options sales and trading at Street One Financial

“I think people are not expecting a big correction anymore. People who fear a correction in my view are those that have been sitting on cash missing the rally.” – A sellsider

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