Lehman's Aussie bull note not a quanto product, analyst says; Deutsche offering has higher risk, value

By Kenneth Lim

Boston, June 6 - Lehman Brothers Holdings Inc.'s Aussie bull notes are an interesting product for investors who want exposure to the Australian economy as a whole, structured products analyst Tim Mortimer of Future Value Consultants said.

Meanwhile, Deutsche Bank AG's return enhanced notes linked to a basket of 11 industrial stocks offers potentially better returns than the broader market but also comes with higher volatility, Mortimer said.

Lehman links to Australia

Lehman plans to price zero-coupon 100% principal-protected Aussie bull notes due June 27, 2012 linked to an index, currency and commodity basket.

The basket consists of the S&P/ASX 200 index with a 33.34% weight, the spot rate of the Australian dollar against the U.S. dollar with a 33.34% weight, high-grade primary aluminum with a 16.66% weight and copper - grade A with a 16.66% weight.

The payout at maturity will be par plus any gain on the basket. Investors will receive at least par.

Notes exposed to broad economy

The Lehman notes are more suitable for investors who are seeking exposure to the broader Australian economy, Mortimer said.

He explained that the fact that the underlying basket tracks different kinds of assets makes it very different from a quanto product that offers exposure to Australia just through its equity market, for example.

"For a U.S.-dollar investor, if you were to buy a fund linked to an Australian index, you would be taking currency risk, so if you just wanted to invest in an Australian index you would want a structured product that just looks at the index without looking at the currency," Mortimer said. "Here they're putting the currency back in there, so it sort of makes it different. If you're a U.S. investor and you just want to invest in an Australian index, you'd have to convert your U.S. dollars into Australian dollars, but the index, and when it comes time to unwind, you'd have to sell the index and then convert the Australian dollars back into U.S. dollars. At which point there's a currency risk."

The cross-asset exposure probably makes the basket less volatile, Mortimer said.

"You often find that when the strength of a country's currency and its stock market are both good, the country's economy would be strong as well," he said. "Although if the currency weakens, it would make the country's exports more attractive ... You often get a bit of a negative correlation coming in there. So actually an index like this usually has lower volatility than an index with just equity and the currency removed."

Although the note has a relatively good participation rate, investors who are seeking exposure to just one kind of asset, such as the Australian stock market, would do better with a structured product that has a narrower basket, Mortimer suggested.

"You should by definition be looking at products that just have one component," he said. "It will make the participation rate better."

Deutsche links to 11 stocks

Deutsche Bank is offering a series of return enhanced notes due June 17, 2010 linked to an equally weighted basket of 11 industrial stocks.

At maturity, if the basket finishes higher than its initial level, the notes will pay par of $1,000 plus triple the basket return. The total return on the notes will be subject to a cap of at least 34.2%. The cap will be set at pricing. If the basket finishes below its initial level, investors will lose 1% for every 1% decline in the basket.

The basket stocks are 3M Co., AGCO Corp., Cemex, Corning Inc., Deere & Co., Dover Corp., Illinois Tool Works Inc., Siemens AG, Textron Inc., Tyco International Ltd. and United Technologies Corp.

Deutsche notes risky

The underlying basket is more volatile than the broader market indexes, Mortimer said.

"The volatility is certainly higher than the index, but compared to some of the stocks that we've seen in reverse convertibles, it's not outrageous," he said.

The product nevertheless has "pretty high volatility," with good potential returns on the upside and a downside that "would be equivalent to holding the stocks," Mortimer said.

The Deutsche notes had a higher-than-average risk score of 5.83 out of 10, with 10 being the most risky, based on Future Value's assessment of the product. But its overall rating, which takes into account the value of the product, its simplicity and potential returns, also ranked above average, Future Value said in a research report.

"This investment offers potential enhanced returns on small to moderate market gains," Future Value stated in the report. "However the principal is at risk. Note that the riskmap score is rather higher than most principal protected products."

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.