Citigroup’s barrier notes on AT&T, Cisco show rare leveraged play on stocks, high gearing

By Emma Trincal

New York, April 22 – Citigroup Global Markets Holdings Inc.’s 0% barrier securities due Oct. 20, 2022 linked to the worst performing of the common stocks of AT&T Inc. and Cisco Systems, Inc. gave investors an unusual leveraged exposure on single stocks designed to fit a mildly bullish outlook.

The payout at maturity will be par plus 400% of the worst performing stock if both underliers finish above their initial level, subject to a 51% cap, according to a 424B2 filing with the Securities and Exchange Commission.

If the worst performing stock declines, but not more than 15%, the payout at maturity will be par.

Otherwise, investors will be fully exposed to the decline of the worst performing stock from its initial price.

Moderately bullish

“This is a good trade if you think those stocks will have a pretty modest growth,” said a market participant.

“There is 4x on the upside.

“As long as the worst of is up 12.75% at the end of the two-and-a-half-year term, you get to hit the cap.

“It plays well for a moderately bullish outlook.

“You exchange the cap for a higher leverage factor.”

Digital-like

Because the leverage was so elevated, the structure resembled that of a digital, he added.

“As long as the price appreciation of the worst-performing stock is modest, you’re going to hit your cap given the 4x exposure.

“It’s almost like a digital payment or a booster.”

Stocks, correlation

One particularity of this leveraged product was the use of single stocks as underlying.

“It’s rare to see single-stocks in a leveraged note. You see plenty of stocks in income strategies, but not so much in growth products,” he said.

Just as with income-generating products, a worst of payout will bring greater risk when the underlying assets are showing low or inverse correlation.

In this case the dispersion risk is not negligible. The two stocks have a low coefficient of correlation of 0.5, according to Factset.

The pick of the pair of stocks may derive from the issuer’s research, the market participant said.

“It could be a 5G- related thing. Cisco’s components might benefit from 5G technology, but this is just a guess,” he said.

Efficient timing

The notes priced on April 17, but the strike date was the day before.

The initial underlying value of each stock was based on an intraday price on April 16 of $30.088 for AT&T Inc. and $41.23, for Cisco, according to the prospectus.

In both cases, the strikes were lower than the closing price.

The term “strike” designates the initial price of the underlying, which will determine the other terms, including the barrier level.

“It’s not unusual to strike a deal prior to the pricing date,” this market participant explained.

“This could have been a reverse inquiry. The client saw the market was down on that day and asked the issuer to strike immediately.

“The issuer can do that. But they still have guidelines to follow. They have to have a term sheet sent before the trade.

“They can still strike in advance of that and put the term sheet for the next morning.”

Those accommodations are easier to satisfy for one-off clients, he said.

Both Cisco and AT&T shares traded slightly down on the strike date and the day prior.

Not so fast

An industry source was not upbeat about the deal.

He would avoid getting exposure to stocks in general whether outright or via a structured note.

Disruption in the oil market and economic impact of Covid-19 have not been fully priced in his view.

“This is just a 15% barrier. And the Dow is still down more than 5,000 points this year. I don’t understand why people are taking on so much risk with stocks,” he said.

He looked at the $35.045 barrier level set for Cisco.

“You were at $35 on March 23 when the market crashed to its low...Just a month ago.

“This market has a lot of volatility.

“Look at oil and this unprecedented decline in prices into negative prices for futures contracts.”

But the management of the coronavirus crisis and its consequences of the economy are even more concerning.

“We don’t have any details on how to reopen the economy.

“How do you manage commuting, going to restaurants, buying clothes?

“This economy has a long way to go.

“We know we’re not going to have great earnings especially if buybacks are going to be prohibited.

“I don’t know what people are thinking when they’re buying stocks or notes linked to stocks.

“This market is extremely volatile. It could very well be on its way of imploding.”

The notes are guaranteed by Citigroup Inc.

Citigroup Global Markets Inc. is the underwriter.

The notes settled on April 22.

The Cusip number is 17328VV23.

© 2015 Prospect News.
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