Issuance rises; equity being used to optimize options pricing across all asset classes

By Emma Trincal

New York, Feb. 24 - Issuance volume rose to $576 million in 56 deals last week, a 15% increase compared to the prior week, according to the most recent data compiled by Prospect News.

Sources noted that issuers have been using equity as an underlier to structure deals and not just to give investors an equity allocation. In fact, many of the structures use equity as a way to create more efficient and better-priced deals that give investors access to other asset classes, including rates and commodities, they said.

Part of the hefty size was due to JPMorgan Chase & Co. pricing the biggest deal of the week with another $142.77 million of exchange-traded notes due May 24, 2024 linked to the volume-weighted average price level of the Alerian MLP index. This index measures the composite performance of energy-oriented master limited partnerships and as such makes for a commodity play. This deal alone amounted to just about a quarter of the entire issuance volume.

Equity: a margin booster

Among some of the trends, sources said that issuers are using equity not just as an asset class but as a structuring tool in an effort to increase margins in an environment still characterized by low interest rates.

A total of 44 equity-only deals sold during the week of Feb. 15 to Feb. 19 for $513 million, almost 90% of total issuance.

"This is higher than usual," a New York sellsider said. "Typically in the U.S., equities represent 70% to 75% of the pie, the rest being commodities, rates and currencies."

"People are using equity to diversify across other asset classes such as commodities or rates," this source said.

Commodities around stocks

Data compiled by Prospect News shows that traditional commodity-linked deals structured around an index or a hard asset fell to very low levels with only two deals totaling $6 million falling into that category.

The vast majority of transactions linked to commodities were structured around single stocks, and the majority of those were reverse convertibles, the data shows.

In total, $241.4 million notes linked to a commodity stock priced last week, or approximately 42% of the total weekly volume.

Some of the popular names were in energy (Schlumberger Ltd.) or precious metals (Barrick Gold Corp.).

Lower volatility

"The desks are using equity as a structuring tool because rates are too low, there is no money to be made in rates," the sellsider said.

He pointed to the recent decline in volatility as measured by the VIX index, which has dropped by 21.75% since its peak for the year on Jan. 22 even though, year-to-date, the index is still up.

"When volatility declines, the cost of options falls too and banks can expect to increase their margin and pay two or three points in commission," this sellsider said.

"The volatility in the options market plays a role in this preference for equity deals," said another structuring source.

Commodities via stocks

Investor appetite for commodities remained firm.

Pure commodity deals - those based on indexes or hard assets - when added to commodity transactions linked to a single commodity stock represented a little bit more than $243 million, or 42% of the total.

When adding the Alerian MLP index ETN, which gives investors exposure to energy, the total of commodity-themed deals becomes $387 million, or more than two-thirds the size of last week's issuance, according to data compiled by Prospect News.

As mentioned, only two issuers brought offerings of notes linked to a commodity index or hard asset.

Those were Goldman Sachs Group, Inc., which priced $4.5 million of notes due March 2, 2012 linked to the S&P GSCI Enhanced Commodity Index Excess Return, and Barclays Bank plc, which sold $1.1 million of buffered notes linked to gold.

"Clearly banks are offering commodities through stocks and not via traditional commodity indexes products at this point. But I'm confident that this market will resume in a few months," the sellsider said.

ETN deal tops

JPMorgan's ETN linked to the Alerian MLP index was the largest deal of the week. The original $75 million of notes priced on April 1, 2009, $75 million more priced on June 5, 2009, an additional $85 million priced on Aug. 13, 2009, and $98.14 million priced on Sept. 24. The total issue size is now $475.92 million.

The notes pay a coupon that passes through the distribution on the underlying partnerships less a fee. In addition, investors at maturity get a return based on the index.

The second-largest deal came from Goldman Sachs, which priced $73.84 million of trigger notes due Aug. 25, 2011 linked to the S&P 500 index. If the index falls by more than 20% during the life of the notes, investors will be exposed to the index with possible losses on the downside and a 30% cap on the upside. Otherwise, investors will get the greater of a 12% contingent minimum coupon and the index gain, also subject to the cap.

Sources said that this deal was popular because of its high cap and the existence of a generous contingent minimum coupon.

The third-largest deal was a $42 million bearish play on the S&P 500 offered by Bank of America Corp.

Usual suspects

The top agents were JPMorgan with $204 million in 10 deals followed by Merrill Lynch with $147 million in six deals. Goldman Sachs came third with $110 million in seven deals.

For the second week in a row, Barclays was not among the top three agents.

However, so far this year, Barclays remains unsurpassed as the top agent with $3.25 billion and 41.21% of the entire U.S. market. It is followed by JPMorgan and then Merrill Lynch.

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