Morgan Stanley note an alternative to REITs, advisor says; SPA thrilled with possible options on products

By Kenneth Lim

Boston, July 28 - Morgan Stanley's new principal protected notes linked to a property index could be an alternative investment to real estate investment trusts, an investment advisor said.

"It's designed to help you outperform the residential markets," the advisor said.

Morgan Stanley links to property index

Morgan Stanley plans to price zero-coupon capital protected notes due Jan. 5, 2011 linked to the Radar Logic Residential Property index (Composite 25).

The index tracks the median per-square-foot price of residential properties in 25 metropolitan statistical areas in the United States, averaged over rolling 28-day periods.

At maturity, each note will pay par of $1,000 plus 1.75 to 2 times any positive gains in the underlying index. Investors will receive at least par.

Uncapped upside attractive

The notes have an appealing risk-reward tradeoff, the advisor said.

"What I like is the fact that it's principal protected and you have an unlimited leveraged upside," the advisor said. "Sometimes to get principal protection and a leveraged return you have to accept a cap on your return, so this is nice."

The structure means that investors are likely to outperform the residential markets.

"If you want to invest in the U.S. metropolitan residential markets, this could make sense," the advisor said. "If the market goes down, you'll get back your principal, so your loss is just opportunity cost. If the market goes up, you'll always get at least 1.75 of any increase, so you'll still be ahead of the market."

The notes could attract investors who are also interested in residential REIT investments, the advisor said.

"I haven't looked at it closely, but this could be an alternative to investing in a REIT," the advisor said. "REIT prices behave like equity, so there's more of a forward-looking component there...which means the stock price of a REIT can go up faster than property prices based on expectations of higher property prices down the road. REITs also pay dividends, so the stock prices will reflect that yield, but the leverage rate, maybe it's enough to offset all of those, maybe even come out better."

Investors may consider using the product to meet allocation targets in portfolios, the advisor said.

"Maybe I want to place 5% of my portfolio in residential property," the advisor said. "Instead of buying shares in a REIT, I could buy this instead for that leveraged upside and principal protection."

Notes could underperform

But the advisor cautioned that the structured notes could also underperform some REITs.

"Most REITs aren't as broad as this index," the advisor said. "So some REITs maybe focus on only the West Coast, or only in some markets, as opposed to 25 big markets. Some don't just look at metropolitan areas."

Because some of the markets tracked by the underlying index could perform better than others, investors could end up underperforming specific REITs or market indexes, the advisor said.

"It's probably less volatile as a whole, but you might be better just targeting some specific markets," the advisor said.

Investors also have to decide whether the residential property sector is a good space to be in at the moment, the advisor said.

"Yes, it will probably outperform the sector, but the question is also should you be investing in the sector in the first place?" the advisor said. "Maybe if you have to allocate $100,000 to property or real estate, maybe you might want to consider retail or commercial sectors instead."

Options on products possible

On Monday, Structured Products Association chairman Keith Styrcula told Prospect News that options on structured products could become a possibility now that a new rule has been approved at NYSE Arca, Inc.

The Securities and Exchange Commission has approved a rule change by NYSE Arca to allow the listing and trading of options on index-linked securities. The change will treat options on index-linked securities similar to standard equity options.

Styrcula, who said he was "thrilled" about the new rule, noted that the industry could eventually see options on structured products, although more work will probably need to be done on the regulatory front.

"It's moving along, but my understanding is that there's still a ways to go before they do it," he said. "If they're successful in doing that, you can just imagine all the cool structured products that can be developed...you can derivatively hedge ETNs [exchange traded notes] and ETFs [exchange traded funds]."

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.