Agents price $270 million structured notes for week amid trade deal uncertainty; May volume up

By Emma Trincal

New York, May 22 – Structured notes issuance volume tallied $270 million in 133 deals for the second full week of the month ended Friday, according to preliminary data compiled by Prospect News.

Meanwhile the S&P 500 index finished the week down 0.8% as the market sold off, rallied and broke even before pushing down again in response to the volatile mood between the United States and China. Weekly figures are subject to upward revisions.

One piece of good news for the industry was a rise in volume for May versus the previous month. Agents priced $1.25 billion through May 17, a 17% increase from the same period in April.

But the year-to-date volume continued to lag with $16.16 billion sold against $23.77 billion last year, a 32% drop.

The market gets credit for these disappointing results.

The missing calls

“The slowdown for what’s almost the first half of this year is highly correlated to the big downturn we had in December,” said a sellsider.

“We had a lot of autocalls in our system, and when the market took a big downturn, those notes didn’t get called. A lot of that volume that tends to roll over wasn’t there.

“But now we’re seeing a fair amount of calls again. It’s fairly recent.”

His firm’s notional sales rose by 30% over the past two months, he noted.

The relatively more sluggish month of April compared to this month was probably due to a game of catch-up.

“The continued increase of the spillovers from April autocalls probably didn’t make it for pricing by the end of last month. They had to wait until the beginning of May,” he said.

“And that’s what you’re seeing now.”

The recent gyrations of the U.S. equity market contrasted with a relatively muted volatility. The S&P 500 index shed 2% through May 17. But it posted a 2.7% gain during that time last month.

In this context some ventured to guess that more deals got called last month as the market rallied during that first half of the month. But it is not as clear what the impact of May’s decline will be on autocalls, the sellsider said. That’s because demand for those products is not just a function of markets going up or down. It also results from the perception that the market is not moving much in either direction.

Worst-of on the market

Last week’s distribution across underlying asset classes remained in line with the year-to-date average: 12.5% for single-stocks versus 76.5% for equity indexes.

Income deals continued to prevail over leverage with a 53% and 18% share, respectively.

Another big winner was the worst-of payout, which has been a consistent trend so far this year. Those structures can be built as growth products although they are income-oriented trades for the most part, the sellsider said.

The volume of worst-of issuance was $113 million, or 42% of the total for the week.

Within this broad category, as much as 90% were linked to equity indexes. Unlike leveraged notes on a single index, those worst-of deals tied to two or three indexes were essentially sold as autocallable contingent coupon, not as participation notes.

“We do a fair amount of worst-of, mostly on income,” the sellsider said.

“Leverage is not as interesting with worst-of because if you want to achieve growth you don’t want to get the exposure to the worst-of. It’s going to eat up your performance. It just doesn’t work so well.”

And perhaps worst-of structures work quite well in a market that is moving toward the flat line after a big draw down in December followed by four months of an impressive rally.

The stock market is still up 14% for the year. But it doesn’t feel that way on a week-to-week basis. For instance, last week kicked off with a sell-off after China retaliated with tariffs. Then the market rebounded and even recovered its losses before more negative trade headlines sent the benchmark lower on Friday.

In spite of the talk

For all the noise on the trade negotiations with China, the CBOE Volatility index is at 14.44, well below its long-term average. It opened at 19 on Monday to close at 16 on Friday. That’s far from 25 in December, let alone 70 in October 2008.

Most market participants expect the VIX to spike at some point once there is more clarity on the negotiations with China. But for now, investors are in the dark, sources said.

“Despite the news, the action is pretty flat,” said a market participant.

“The reason you see more worst-of is because of what the markets are. Clients are a little bit more indifferent. They don’t have a strong view. Between the S&P and the Russell they don’t know which one is going to outperform the other,” he said.

“So why not take the additional position? I’m indifferent. I’m good with any of these. That’s the rationale behind these trades.

“If you had a strong view you wouldn’t do that. You would do leverage or best-of.”

Boosters

In this late stage of the bull run, investors appeared indeed to explore alternatives to the traditional leveraged note.

Volume for leveraged products with no buffer or barrier stalled last week making only 2.5% of the volume against its 10% average share for the year. Leveraged notes with either buffer or barrier accounted for 15.5% of the sales.

Other types of structures better adapted to a directionless market have gained momentum such as the digital note with uncapped market-linked exposure above the minimum digital return, a bullet note often known as “booster” or “jump.”

“In this type of market, if you’re up only a fraction you still get the booster. These deals are very popular right now, more popular than worst-of leverage products, which are designed for growth but really limit your return to the worst index. And the leverage isn’t a big help in a sideways market compared to the booster,” he said.

Delta-one for protection

A more skittish kind of investor is looking for market-linked notes with buffers as they fear another December type of ordeal.

“We’ve had reps calling up looking for buffered notes with a one-to-one exposure on the S&P. Their clients are nervous about the uncertainty around trade talks. If it breaks into a full-blown trade war, they want to change their exposure. The market is at all time highs. What happens if something goes wrong with the trade negotiations?

They want the downside protection first. If there is a deal, there could be a significant leg up in the market. So, they’re willing to give up the leverage. But overall they’re not concerned about the upside. These deals are attractive to defense. If they can get a 20% buffer on a five-year S&P with a 25% cap, they’ re happy.”

Two BofA deals

The top two deals last week, both distributed by BofA Securities Inc. and issued by HSBC USA Inc., were market-linked step-up autocallables tied to the S&P 500 index.

The first one was a six-year deal for $34.49 million. An annualized call premium of 6.2% will be paid if the index closes at or above the initial level on an annual observation date.

If the notes are not called and the index finishes flat or up to the step-up value, 130% of the initial level, the payout at maturity will be par plus a 30% step return.

If the index finishes above the step-up level, then the payout will be the index return.

Investors will receive par if the index falls by up to 15% and will lose 1% for each 1% decline of the index beyond 15%.

The second HSBC autocall deal priced at $26.69 million was a three-year note paying an annualized call premium of 8.45%. The step-up payment is 21%.

In this one, however, investors have full downside exposure.

The third deal was an 18-month autocallable worst-of with a fixed coupon of 8.13% for $14.34 million issued by Citigroup Global Markets Holdings Inc. tied to the S&P 500 index and the Russell 2000 index.

The notes will be automatically redeemed at par plus the coupon if each index closes at or above its initial level on Nov. 1, 2019 or May 1, 2020.

The knock-in at maturity is a 70% American barrier applying to the lesser performing index.

The top agent last week was BofA Securities Inc. with $61 million in two deals, or 22.6% of the total. It was followed by UBS and JPMorgan.

The top issuer was HSBC USA Inc. with $73 million in seven offerings.

For the year, Barclays Bank plc is No. 1 with $2.36 billion in 611 deals.

“The slowdown for what’s almost the first half of this year is highly correlated to the big downturn we had in December.” – A sellsider

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