Lehman gold notes, Barclays rate notes offer access, analyst says; Goldman links to stock, rates

By Kenneth Lim

Boston, May 9 - Lehman Brothers Holdings Inc.'s gold-linked dual participation notes are bearish products that offer accessible exposure to the commodity for cautious investors, structured products analyst Suzi Hampson of Future Value Consultants said.

Meanwhile, Barclays Bank plc's TrendStar index notes tied to the U.S. dollar swap rate are unusual for interest rate products because it is more of a growth product than an income product, Hampson said.

Lehman is offering a series of zero-coupon principal-protected dual participation notes due May 30, 2013 linked to price of gold.

At maturity, the notes will pay par of $1,000 plus between 40% and 60% of any increase in the price of gold, capped at a maximum total payout of 132% to 148% of the principal. That means that the payout will stop increasing if the price of gold goes up by more than 80%.

If the price of gold is lower at maturity, the payout will be par plus 70% to 90% of the positive magnitude of the decline.

Lehman notes suit cautious investors

The Lehman gold notes should attract risk-averse investors who want an easy way to get exposure to gold, Hampson said.

"With this product it doesn't matter whether the value depreciates or appreciates, you still get your return, up until a cap," she said. "That's five years, capped at 40%, so if it reaches the cap you're still making a good return on an annual basis. The cap clearly isn't a hindrance in that way."

"The principal is protected to maturity, so it's for a fairly cautious investor who wants to get into gold," Hampson added.

The notes will also perform better if the price of gold drops.

"The participation on the downside is higher, and I don't see any cap on the downside," she said. "So yeah, if gold depreciates, investors will get higher returns."

But the principal protection and the downside participation come with a price in that the participation rate is below 100%, Hampson said.

"The return on the upside is capped, and you get uncapped returns on the downside," she said. "The participation rate on both is less than if you just invested in the underlying asset itself, but of course in commodities the liquidity and access are not as high as other kinds of assets, so this is a structured product that makes it easier for an investor to invest in the asset class."

The difficulty of getting exposure to gold by other means makes the lower participation more palatable, she said.

"If it was linked to an index, like the S&P 500...the S&P is so liquid that you can just invest in it easily and fairly cheaply, but commodities are more difficult to invest in directly, which is why they do make good assets for structured products. So although the participation is less than 100%, the fact that it's principal protected and the fact that you gain on both the upside and the downside will appeal to the cautious investor. If it were linked to an index or a stock you might question why you would want to get it at this participation rate."

Barclays sells TrendStar notes

Barclays earlier in the week also launched zero-coupon notes due May 30, 2013 linked to the Barclays TrendStar index.

The index seeks to reflect the excess returns available by making investments based on predicted changes in the shape of the yield curve for the dollar swap rate. It contains three constituent indexes, which track the performance of the two-year U.S. dollar swap rate, the 10-year U.S. dollar swap rate and the U.S. federal funds effective rate.

The payout at maturity will be par plus 200% of any gain in the index. Investors will receive at least par.

Barclays notes unusual

Interest rate products are usually income products that pay a coupon depending on the difference between two swap rates, but the Barclays product appears to be a growth strategy that pays through a redemption amount pegged to the interest rate index, Hampson said.

"It's fairly interesting in that you do see a lot of interest rate products, but they tend to be income products, for example it might be the 10-year swap rate minus the two-year swap rate and you get participation on the difference between those rates...So it's fairly unusual linking a growth product to rates."

The TrendStar index has short, medium and long-term rates in its components, so the index appears to be able to take a position across the interest rate spectrum, Hampson said. The product could attract new investors into the interest rate segment, she said.

"Usually interest rate notes are very long term, like maybe 20 years or something, this one is a little bit shorter at five years," she said. "It might make someone who's not prepared to lock their money in for 20 years be more open to investing in interest rates. And it's capital protected, so for the cautious investor looking to access interest rates, this might appeal to them."

Good value in Merrill note

A recent offering by Merrill Lynch & Co. Inc. of zero-coupon partially principal-protected notes due December 2010 linked to the euro/U.S. dollar exchange rate seemed very attractive compared to other recent products, Hampson noted.

The Merrill offering will pay par of $10 plus 1.2 to 1.5 times any appreciation of the dollar against the euro. If the rate ends lower, investors will lose 1% for every 1% decline in the rate, up to a maximum loss of 5% of the principal. Investors will receive at least 95% of their principal.

The note emerged as an unusually attractive offering based on Future Value's assessment, which takes into account the potential return and simplicity of the note as well as the risk.

"The returns are amazingly high," Hampson said. "Then there's the principal protection factor, and the return is not capped, so there's very little change of losing your money except for defaults. Principal protection will often score quite well [in Future Value's assessment] mainly because of the risk factor."

Goldman ties product to S&P 500, rates

Goldman Sachs & Co. launched an unusual product tied to both the benchmark S&P 500 stock index as well as the 10-year Constant Maturity Treasury rate.

At maturity, the 15- to 16-month notes will pay par of $1,000 plus a supplemental amount, which will accrue on days when both the S&P 500 and the 10-year rate fall within a range. The accrual rate, which also sets the maximum supplemental payment, will be between 8.5% and 9.5%. The accrual rate will be set at pricing.

The range for the S&P index will be approximately 92% to 108% of its initial level, while the 10-year rates must be between approximately 3.3% and 4.5%. The range limits will also be set at pricing.

The notes are principal protected.

The product appears to be designed for investors who think the S&P 500 and U.S. interest rates will stay range-bound over the next year and a half.

"Investors who believe that the index or the reference rate will fluctuate significantly or experience significant volatility during the accrual period should consider their investment in the notes carefully," Goldman Sachs said in a prospectus.

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