Agents price $333 million of structured products in week amid rising volatility, political risks

By Emma Trincal

New York, April 19 – Sales of U.S. structured products keep on growing even as the stock market rally is beginning to fade, according to data compiled by Prospect News.

Meanwhile old trends persist. The search for yield continues to drive volume, with worst-of notes prevailing as they are believed to be the most efficient yield-boosting structure.

In a holiday-shortened week, agents priced $333 million of structured products, a rather high notional for the middle of the monthly cycle, according to the data. The number of deals was 94, down from 141 during the previous week.

The U.S. equity market finished lower due to geopolitical risks preceding Friday’s announcement that the Pentagon had dropped the largest non-nuclear bomb in Afghanistan.

The S&P 500 index fell 1.1% last week, its second week in sell-off mode.

U.S. markets were closed on Friday in observance of Good Friday.

Paul Weisbruch, vice-president of exchange-traded funds and options sales at Street One Financial, said that last week’s geopolitical headlines may have distracted investors but that most remained bullish.

“We just passed the end of the first quarter. It’s now earnings season. Investors and money managers are rebalancing their portfolio and it’s time to put new money to work,” he said.

“It doesn’t surprise me that you see a pick-up in volume.”

The S&P 500 index is now trading 1% lower than its high for the year at the end of March. Bearish calls were premature, according to Weisbruch.

“We haven’t had a meaningful pullback, something like a 3% to 5% correction. Investors are perhaps less confident due to the daily political headlines. But the sentiment remains bullish,” he said.

“For sure we’ve seen big intraday swings across all asset classes: gold, the U.S. dollar, oil are all very volatile. It’s not just stocks. But it’s fair to say that this is mostly in response to geopolitical pressures.”

The CBOE VIX index rose above 16, its highest level since the November elections.

The surge of the fear gauge was attributed to Thursday’s announcement that the U.S. had dropped its largest non-nuclear bomb on an ISIS position in Afghanistan. But the conflict in Syria, the upcoming elections in France and the continued tensions with North Korea were also large contributors.

For Weisbruch, the main factor driving investors to put money to work was the fear of having missed the rally.

“I’m sure a lot of people, reluctantly but inevitably had to go back into the market. With a rally like the one we’ve had since the elections, how can people sit on their hands? If you’re a portfolio manager or an adviser, how long can you be in cash or low-yielding bonds?

“It’s just difficult when you manage money to look at the stock rally without doing anything.

“Anyone too skittish or bearish to invest has just been very wrong so far.”

Volume for the year to date is up by more than 36% to $14.5 billion from $10.64 billion.

The multiplication in the number of offerings – from 2,050 to 3,673, or 80% more this year – is a factor. But the stock rally is the main driver behind the surge in sales.

All top agents at the exception of Goldman Sachs have seen their volume grow significantly. Bank of America’s notional is up 28%. Morgan Stanley and UBS have seen their volume nearly double from last year. JPMorgan has priced 40% more in volume this year than last; and Citigroup saw its volume surge by 46%.

If Goldman Sachs has not seen the same growth it is mainly because a $1 billion deal it priced in early 2016 has not rolled over.

Top structures

The top structures seen last week were worst-of notes with contingent coupons. Agents priced $143 million of such products in 25 deals, accounting for 43% of the volume.

Eighty five percent of the worst-of deals issued last week were linked to indexes. Stocks were a minority with only $22 million in five deals, according to the data.

“A lot of people got burned with single stocks in the last cycle. They’re more comfortable with indices,” said a market participant.

When volatility remains historically low and investors avoid picking stocks, one of the most efficient ways to produce yield is to structure those contingent coupon notes in which the coupon size increases inversely with the correlation between the underlying indexes, a sellsider said.

Speaking about worst-of deals, he said that: “They pay the biggest coupon. Firms used to sell reverse convertibles on one stock, shorting volatility to pay double-digit premium. Nobody wants to get even near that right now.”

“Volatility is still low. To get more yield, people put two, even three indexes in it. Put four and you get a huge coupon.”

Investors’ willingness to be exposed to the risk of more than one equity index illustrates how strong the appetite for yield has remained.

“Rates are still low. No one expects them to go to 5% or 6%,” said the market participant.

And while the Federal Reserve has recently raised the rates and announced more hikes for this year, the bond market is somewhat skeptical.

“Everyone expects the Fed to raise rates but how fast? No one knows. Meanwhile, rates have started to drop. The dollar has been down since the beginning of the year, a trend exacerbated when Trump said that it was too strong,” he said.

“You just have to look at junk bonds. Bids for high-yield corporate bond ETFs are very strong.

“People are chasing for yield as rates are going the wrong way.

“They continue to buy high-risk securities just to get higher yields as yields are falling day after day.”

Top deals of the week

GS Finance Corp. priced the top deal with $37.85 million of three-year trigger callable contingent yield notes linked to the least performing of the Euro Stoxx 50 index, the Russell 2000 index and the S&P 500 index.

The notes paid each quarter a contingent coupon of 9% per year if the index closed at or above its coupon barrier of 70% of the initial price on each day during that quarter. The notes were callable after six months. Investors received par at maturity unless the worst-performing index closed less than 55% of its initial level, in which case investors would be fully exposed to its the decline.

This deal was the only one in excess of $20 million to price last week.

Coming next was another worst-of issued from Morgan Stanley Finance LLC for $13.88 million. The 10-year trigger autocallable contingent yield notes were linked to the lesser performing of the Euro Stoxx 50 index and the S&P 500 index. The quarterly contingent coupon offered an annual rate of 7.3% based on a coupon barrier of 70%. After one year, the notes were automatically called on a quarterly observation date if each index closed at or above its initial level.

The barrier at maturity was 50% of the worst-performing index’s initial price.

Top agent

JPMorgan was the top agent with 13 offerings totaling $68 million, or 20.42% of the total. It was followed by Barclays and Goldman Sachs.

Barclays Bank plc took the first slot as issuer with $80 million in 17 offerings, or about 24% of the market.

Two of those deals were leveraged notes with BofA Merrill Lynch listed as the agent, one for $7.47 million based on Apple Inc.; the other for $7 million tied to the Nasdaq Biotechnology index.

“Investors are perhaps less confident due to the daily political headlines. But the sentiment remains bullish.” – Paul Weisbruch, vice-president of exchange-traded funds and options sales at Street One Financial

“Everyone expects the Fed to raise rates, but how fast? No one knows.” – A market participant

© 2015 Prospect News.
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