JPMorgan's notes tied to worst performing of euro, gold combine speculation with protection

By Emma Trincal

New York, Sept. 22 - JPMorgan Chase & Co.'s 0% notes due March 28, 2012 linked to gold and the inverse performance of the euro relative to the dollar give investors a chance to make a speculative investment with a high level of protection. For some, the level of protection warrants the bet. Others feel that investors should avoid speculation and that the notes offer little appeal.

The notes are a variation of a so-called worst-of structure, sources said.

In a worst-of, only the least-performing underlying component is taken into account for the calculation of the payout.

"This note offers something else, which is nearly a full downside protection," said Matt Medeiros, president and chief executive of the Institute for Wealth Management.

The payout at maturity will be 98% of par plus the additional amount, which cannot be less than zero or more than $1,000 per $1,000 principal amount of notes, according to an FWP filing with the Securities and Exchange Commission.

The additional amount will be the currency return or the commodity return, whichever is less.

High protection

The notes express a bearish view on the euro: The currency component increases when the euro depreciates relative to the dollar, according to the prospectus.

The other component is gold. Investors are betting on an increase in the price of the precious metal.

The prospectus illustrates in hypothetical examples how the downside protection works in the product, making it different from most worst-of structures.

In one example, gold rises by 10% and the euro appreciates in relation to the dollar by 20%, resulting in a reference currency return of negative 20%. Instead of losing 20% of principal, which is how the payout would be determined in a traditional worst-of, investors in this deal would only lose 2% of their principal, the prospectus said.

Correlation factor

"I like that with these two very volatile positions that you have, gold and currency, you get a very high downside buffer," said Medeiros.

"I also like that the decision you're making is a six-month decision. With these asset classes, having a short timeframe is certainly beneficial."

Medeiros said that the protection is even more useful when the two underlying components' level of correlation changes, as it is the case in today's market.

"The market is in such turmoil that we're seeing the correlation between gold and currencies change at a very rapid pace," he said.

Medeiros noted that up until recently, when investors lost confidence in the United States and in Europe, they would be buying gold.

"That was the normal correlation," he said.

"But now, things have changed. When the dollar goes down or the euro goes down, you're seeing a sell-off in gold too," he said.

"I think with these notes, if the correlation reverts to normal, that's great. If it doesn't, if you have a high correlation, at least you benefit from a maximum drawdown of 2%.

"I like that 2%. It's a very small window to make a relatively speculative investment."

Not so fast

But for Steve Doucette, financial adviser at Proctor Financial, the downside protection is not a reason to invest given the two underlying components.

"You have gold and the euro, and you get the worse of the two. I don't call that investing. It's a speculative bet," he said.

"It's a six-month. That means it's taxed as short-term debt. That's not attractive from a tax standpoint.

"And besides that, who can predict what gold and the euro are going to do and how they interact with one another?

"It's a structure for traders, for brokers trying to push products and for speculators.

"I can understand that people want protection. But I can't understand why they would be willing to sacrifice an investment plan for protection."

The notes (Cusip: 48125X5A0) are expected to price Friday and settle Sept. 28.

J.P. Morgan Securities LLC is the agent.

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