Morgan Stanley, JPMorgan jump onto the gold bandwagon as bulls regain momentum

By Emma Trincal

New York, Oct. 24 - Several deals based on the performance of gold have recently priced or are coming up. The Federal Reserve's recent QE3 announcement signaling a commitment to maintaining the easing policy has buoyed the gold bulls. A recent selloff in the price of gold may have provided better terms and entry points, sources said.

Morgan Stanley plans to price 0% enhanced trigger jump securities due October 2014 linked to the price of gold, according to a 424B2 filing with the Securities and Exchange Commission.

If the price of gold closes above the 85% downside threshold level during the life of the notes, the payout at maturity will be par plus the greater of any gain and the fixed percentage of 12%.

Otherwise, investors will be exposed to any losses.

The cap at maturity will be 27% to 31%.

Separately two gold-linked notes sold by JPMorgan priced last week. They topped the list of offerings in size in an unusually slow week, according to preliminary data compiled by Prospect News.

Recently priced

JPMorgan Chase & Co. issued the first of those two in its $16.01 million of 0% capped contingent buffered notes due Oct. 31, 2013 linked to gold. The payout at maturity was unleveraged and capped at 14.5%. On the downside, investors were protected up to a 15% price decline by a final barrier. Once the barrier was breached, they were fully exposed to the underlying price decline.

The other JPMorgan deal was also a one-year product. It was issued by UBS AG, Jersey Branch with its $14.04 million of 0% gold participation notes due Oct. 31, 2013 linked to the spot price of gold.

Investors received as a payout the price increase in gold on a one-for-one basis up to a 14.2% cap. On the downside, investors were exposed to losses from the initial price if gold fell by more than 15%.

Matthew Bradbard, vice-president of managed futures and alternatives at RCM Asset Management, said that he liked none of the notes due to the cap and the reduced liquidity.

"In terms of being a trader, for every dollar I risk I want to be able to make one-and-a-half, two or even three bucks," he said.

"You can lose 100% and you're capped. Right there, the payout is skewed. This doesn't work for me. When I risk losing, I have to be able to make money. Forget about the fact that one is one year, the other a two. I just don't like to be tied up for so long. It's the risk that counts," he said.

European versus American

The Morgan Stanley upcoming deal and the two one-year notes sold last week by JPMorgan have something in common, said a market participant: the 85% barrier on the downside, which provides investors with a conditional protection of 15%. But he emphasized the differences between the two barriers. While the Morgan Stanley barrier is observed any day during the term - a type of barrier that corresponds to an American option, which can be exercised anytime - the two shorter-dated products have a final barrier, or European-type of option, he noted.

"That's a big difference," he said.

"For most people, there's much more risk in having a day-to-day exposure as opposed to having a European barrier," he said.

"I would characterize the two shorter deals as a better fit for a conservative investor whereas the Morgan Stanley product is designed for investors who need to have a stronger bullish gold view on the upside.

"The daily observation is a big risk. It always is.

"Optically, if you compare a European observation with a daily observation, no matter what the volatility is, there's always more risk," he said.

Those deals suggest a renewed interest in gold, sources said.

Big picture

Gold currently trades at $1,700 an ounce and is up 14.5% for the year. The precious metal peaked at the end of February at approximately $1,800 before hitting bottom at $1,550 mid-May. Since May, the precious metal has rallied to $1,795 on Oct. 4, nearly its previous high for the year. But the price has dropped since then.

The 85% barrier seen in all three products could easily be breached given the volatility of the asset class, said Bradbard, who pointed to the Morgan Stanley product.

"Let's start with the recent moves: in the last three weeks, gold has come down 5.5%," he said.

"In the last two years, you've had a high of roughly $1,900 an ounce and a low of $1,300. That's a $600 range in the last two years.

"If you take today's price, $1,700, a 15% decline is a $255 move. Guess what? Your 15% barrier is easy to breach in two years. I wouldn't touch it."

"I would rather by gold and be able to get out of it," he said.

On the short-term, Bradbard said that he was telling his clients to be short the precious metal.

"I think you can see another $40 to $60 price decline over the next couple of weeks. If you can buy gold at $1,640, it's a good price," he said.

But over a mid-term horizon, the trader said that he was a bull.

"There are many reasons for that: the U.S. and the governments around the world printing money; the weakness in our currency; the potential inflation; the flight to safety. More money is flowing into commodities. The gold market has moved up every year for the past 11 years while the stock market has moved sideways for the past 10 years. The trend is your friend," he said.

The recent selloff in gold may provide investors in the notes with a better entry point, although there is more to come, he said.

"Gold has dropped in price recently but it's just now. It's due to the slowdown in China, the dollar. Note that oil has come down too. People are taking money off the table. They're taking risk off," he said.

"Is it a good time to strike a deal on gold given the lower price? It depends on your timeframe. I see prices coming down a little bit more in the near term."

Morgan Stanley & Co. LLC was the agent for the Morgan Stanley notes whose Cusip was 617482Q49.

The Cusip for the $16 million JPMorgan notes was 48126DBU2.

It was 90261JLA9 for the UBS deal.

Both the JPMorgan and UBS products were sold on Friday by JPMorgan. They both carried a 1% fee.

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