JPMorgan targets short-term worries with resetting notes; ABN offers generous reverse exchangeables

By Kenneth Lim

Boston, March 20 - JPMorgan Chase & Co.'s resetting reverse exchangeables make sense for investors concerned about a significant short-term correction in the underlying, said structured products analyst Tim Mortimer of Future Value Consultants.

"It's intended for someone who is uncertain about the first month and wants some protection in their investment," Mortimer said.

Mortimer also noted an unusually attractive pair of reverse exchangeables by ABN AMRO Bank N.V.

"It's pretty unusual to have such a high coupon and such a low barrier," Mortimer said.

JPMorgan's reset 'interesting'

JPMorgan's resettable reverse exchangeables offer an "interesting variation" to the typical reverse exchangeable structure, Mortimer said.

JPMorgan previously announced a series of 14% annualized reverse exchangeable notes due June 30, 2008 linked to the common stock of Research in Motion Ltd.

Like most reverse exchangeables, the notes will be redeemed for a number of Research in Motion shares equal to par of $1,000 divided by the initial share price if the underlying stock falls below the barrier level of 70% of the initial share price during the life of the notes and ends below the initial share price. Otherwise the notes will pay par.

But a reset feature will reduce the initial price by at least 30% if Research in Motion stock falls breaches the barrier during the first 30 calendar days.

JPMorgan also announced 12% annualized reverse exchangeable notes due June 30, 2008 linked to the common stock of Apple Inc. that work the same way. The barrier level on the Apple-linked notes is 80% of the initial share price, while the reset window is also 30 calendar days.

"It's quite an interesting feature," Mortimer said. "Especially in today's markets, who knows what the next 30 days is going to bring?"

Such uncertainty is what the notes are trying to target, he said. But investors should probably be expecting a rather large correction in the near term for the reset feature to work.

"If the market declines by less than 30% you are not protected by the reset, so the investor will probably be expecting a huge correction in the stock or market in the next 30 days," Mortimer explained.

It is important for investors to know the limits of the reset, he said, adding that "the reset isn't a complete reset."

The reset will apply only if the initial stock price falls far enough during the first 30 days, he said; a drop of 29% on the underlying will not trigger the reset, but will still leave the investor hovering close to the barrier.

The reset amount will also be limited.

"If the stock was initially at 100 and it is now at 50, the initial price will be reset to 70, and the new barrier will be reset to 49, so you're only 1% from the barrier at that point," Mortimer said.

Investors who want the feature must also consider how much it costs in terms of the coupon and the barrier level.

"How much the investor is paying for it will be a critical question," he said.

ABN products attractive

ABN AMRO launched a couple of reverse exchangeables with unusually generous terms, Mortimer said.

The first product is a series of 22% knock-in reverse exchangeable securities due March 27, 2009 linked to the common stock of General Motors Corp.

The notes will return par of $1,000 if the underlying stock has not fallen below the knock-in level of 50% of the initial stock price during the life of the notes and does not end below the initial stock price. Otherwise the payout at maturity will be the equivalent of par divided by the initial stock price.

The second product is a series of 11.5% knock-in reverse exchangeable securities due March 27, 2009 linked to the common stock of ConocoPhillips.

Those notes have the same features as the General Motors-linked product, but the knock-in level is set at 70% of the initial stock price.

Both products scored high on Future Value's assessment, which takes into account the potential returns as well as the risks. Compared to other similar products that were recently launched, the ABN offerings appeared to offer potentially better returns at lower risks.

The General Motors-linked product, in particular, seemed unusually generous with a high coupon and a low knock-in level, Mortimer said.

For reverse exchangeables, "it's critical what sort of view you take on the direction of the market in such an investment," Mortimer said. But "usually a 20% to 30% barrier is not worth very much, actually."

"It's pretty rare to have a 50% barrier," he said.

The ConocoPhillips-linked product also scored high on Future Value's metrics.

"For the other one [linked to ConocoPhillips] the coupon is 11.5%, barrier is 70%, still a pretty decent barrier," he said.

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