Issuance volume quiets down in shortened week; two big autocallable issues appeal to investors

By Emma Trincal

New York, April 7 - Two large autocallable deals topped the list of offerings during a quiet holiday week that ended April 1, one day prior to Good Friday, confirming the popularity of the autocallable structure.

Agents sold $771 million last week in 51 deals. The volume was down 57% from the prior week ended March 26, which saw the pricing of $1.82 billion in 408 transactions, or approximately eight times more deals than last week.

"Deals probably closed on the 24th, 25th and 26th last month and printed on the 30th and 31st given the Easter weekend," a New York sellsider said.

Top two are autocallables

There were no large-size exchange-traded notes during the week, but the two top deals - both autocallable notes offerings - priced on Thursday in unusually large amounts, representing 53% of the total.

Credit Suisse AG, Nassau Branch priced $257.19 million of 0% autocallable index knock-out notes due May 2, 2011 linked to the S&P 500 index. It was the largest deal of the week.

Goldman Sachs Group, Inc. priced the second-largest deal with $156.77 million of 0% autocallable underlier notes due April 25, 2011 linked to the Euro Stoxx 50 index with a 52% weight, the FTSE 100 index with a 24% weight and the Topix index with a 24% weight.

"The size speaks for itself. Investors like autocallables," the sellsider said.

"The autocallable structure is a good structure. It's well liked, and it's a good fit for the U.S. market," he added.

Both autocallable deals had similar terms, the difference being the use of two different underlyings.

In both transactions, the notes are callable if the underlying index or basket closes at or above 107% of its initial level on any weekly review date. The call will trigger a 7% payout in addition to the early redemption.

In both deals, the 20% knock-out level if breached will yield a payout of par plus the underlying return at maturity.

If the knock-out event does not occur, investors will receive the greater of par and par plus the underlying gain.

The other differences between the two transactions were distribution channels and fees.

JPMorgan was involved in the distribution of the Goldman Sachs deal. The Credit Suisse-issued deal was solely distributed by JPMorgan.

The Credit Suisse deal carried a 0.8% fee versus 1.33% for the Goldman Sachs deal.

Big new U.S. trend

"The autocallable trend is growing in the U.S. market. It's already big in Europe and Asia," the sellsider said.

"It allows investors to take gains off the table, get their money back if the notes are called and readjust their portfolio if their views have changed. The rationale remains the same: It gives investors an opportunity to participate in the market upside and capture the first 7%, 8% of the return," he said.

Without commenting on the two deals, which differ by the nature of their underlying, this sellsider said that upside potential is greater when the underlying is a single index.

"Autocallables are likely to redeem early although it depends on the underlying. The call is more likely to occur with one index like the S&P 500 or the Russell than for a more diversified basket," he said.

When the buffer is breached, investors are exposed to the index or basket performance and may lose their principal.

"You have downside risk like in any structured product. But you have a good downside protection built into these types of structures," the sellsider said.

Risk appetite

Looking at the credit rating of Goldman Sachs, which priced the second-largest deal, the sellsider noted, "The popularity of these autocallables also tells us that risk appetite is back. A Goldman Sachs that is less creditworthy than other issuers rated double-A could raise concerns. Yet investors are buying it."

Goldman Sachs is rated single-A by Standard & Poor's with a negative outlook.

Credit Suisse has a single-A rating from S&P with a stable outlook.

Investors and analysts agreed that autocallable deals are increasingly popular. But some were more skeptical about it.

Short-term appeal

William Thatcher, financial adviser at Hammond Associates said, "The appeal of autocallables is totally based on the appeal of short-term investing. People hope the notes will be redeemed early."

"It's selling like hotcakes because there are some instances where even when the underlying goes down, you still can get some return," he added.

However, Thatcher was skeptical about the likelihood that the notes will be called over a short period of time.

"A short-term maturity is also the risk. We know that over a 20-year, 30-year period, stocks have always returned something. But volatility over one year is enormous, either up or down. So you really can't tell which way it's going to go," he said.

Beware this cap

Bradley Kay, analyst at Morningstar, was critical about the capping of the upside that is employed in autocallable payout structures.

"You're locking in a gain, a 7% gain, so from that standpoint it can be a very positive thing. But you're also missing the truly great years in the stock. As an investor, you're making the bulk of your earning over time. But with the redemption of an autocallable, you're kicked out of the market. You're capping your return to 7%. You're selling a call option. You're placing a bet on a moderate gain for the year," Kay said.

"But by the same token, you're missing on those incredibly good years, years like 2009 that make the bulk of your growth as an investor. Say the market is up 15%, what you're giving up for that safety is that chance for the extra 8%."

JPMorgan leads

JPMorgan distributed the largest deal of the week, or a third of the total issuance with that one deal.

This led this agent to easily top the league tables with $359 million in 15 deals, or 46.33% of the total issuance of the week.

"So far, the primary dealer at work with autocallables is JPMorgan that distributes most of them," said the sellsider.

"It takes an effort to design a structure and explain it to the distribution force. It just happens that JPMorgan has been focusing on these kinds of structures," the sellsider said.

Goldman Sachs followed with just one deal - the second-largest transaction mentioned earlier for $157 million.

UBS came third as UBS AG, Jersey Branch priced $100 million of exchange-traded access securities linked to the Alerian MLP Infrastructure index, one of the most popular ETNs in the market. UBS priced five other deals totaling $130 million, or nearly 17% of the issuance total.

Commodity ETNs

Another trend for last week was the presence of a couple of ETN offerings, which were both commodities-based.

One, the third-largest transaction, was UBS' $100 million E-Tracs due April 2, 2040 linked to the Alerian MLP Infrastructure index. Interest is payable quarterly and equals the sum of the cash distributions that a hypothetical holder of the index constituents would have been entitled to receive during that quarter, reduced by the accrued tracking fee. The payout at maturity is par plus the index return, which could be positive or negative, minus the accrued tracking fee.

These notes, linked to master limited partnerships that are publicly traded on a U.S. securities exchange and operate in the energy sector, are popular due to the potentially high yield offered by the partnerships.

Another ETN, much smaller, came to market from Barclays Bank plc, which priced an additional $12.5 million of 0% iPath exchange-traded notes due June 24, 2038 linked to the Dow Jones - UBS Sugar Subindex Total Return. The notes, listed on the NYSE Arca under the symbol "SGG," represented the sixth-largest deal of the week.

Commodities are back

Commodities made a strong comeback last week compared to the week before. In all, $196 million of commodity-linked notes priced, or more than 25% of the total, compared with a 9.3% market share during the week ended March 26.

Morgan Stanley priced the fourth-largest deal with $62.04 million of 0% knock-out notes due April 14, 2011 linked to the S&P GSCI Excess Return index.

In addition to straightforward commodity deals tied to a commodity index, agents priced notes linked to commodity stocks, such as Barclays' $10 million offering of reverse convertibles linked to the share price of Halliburton Co. or Barclays' $10.94 million yield optimization notes linked to Goldcorp Inc.

On the other hand, reverse convertible issuance declined noticeably last week compared to the prior week. They fell to $43.34 million in 10 deals, or less than 1% of the total, from $533 million, or nearly 30%, the week before.

"It's not surprising because reverse convertibles usually price toward the end of the month, and the real end of the month was the week before," said the sellsider.

"The size speaks for itself. Investors like autocallables." - A New York sellsider

"[Autocallables are] selling like hotcakes because there are some instances where even when the underlying goes down, you still can get some return." - William Thatcher, financial adviser at Hammond Associates

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