Morgan Stanley’s $3 million dual directional notes linked to SPDR S&P Oil offer recovery play

By Emma Trincal

New York, April 22 – Morgan Stanley Finance LLC’s $3 million of 0% dual directional trigger jump securities due May 3, 2019 linked to the SPDR S&P Oil & Gas Exploration & Production exchange-traded fund caught buysiders’ attention as the structure delivers a generous upside on an investment tied to a depressed asset class.

In addition, the barrier associated with an absolute return feature offers an additional margin of safety with profit potential on the downside.

The notes are guaranteed by Morgan Stanley, according to a 424B2 filing with the Securities and Exchange Commission.

If the fund finishes above its initial level, the payout at maturity will be par plus the upside payment of 52%.

If the fund falls but finishes at or above the 80% trigger level, the payout will be par plus the absolute value of the return.

If the fund finishes below the trigger level, investors will lose 1% for every 1% that the final share price is less than the initial share price.

Volatile

Steve Doucette, financial adviser at Proctor Financial, said that the potential return of 17% per year is generous even taking into account the likelihood of surging prices after two years of a bear market. The recovery, he noted, has already begun this year, but the market remains uncertain, which is why his main focus was on the downside risk.

“It’s one of those very volatile sectors,” he said, noting that the fund lost 35% over the past year but is already up 15% this year.

“This is the benchmark for oil stocks. It’s highly correlated to oil.”

In a little over two years, light sweet crude oil prices dropped 60% from their June 2014 peak. During the same period, the ETF share price also fell 60%.

Doucette noted a trend reversal since the end of February when the ETF bottomed out for the year.

“The fund is already up 15% this year. But it could go either way. Obviously, a 17% a year is not bad on the underlying. But I don’t know,” he said.

“If you’re willing to gamble on oil a little bit, the structure is pretty interesting.”

Sector play

The chances of hitting the cap are slim in his view.

“The only time you underperform is if it goes through the 52% level, but there’s a low probability for that,” he said.

“The upside is great. You have the absolute return in between.

“If you believe it won’t go down to its lows, then it seems like a pretty good deal.”

Yet Doucette said he would not consider the notes.

“I’m not going to venture down this energy sector. It’s too narrowly focused for us. We would rather look at a broader index,” he said.

Whether it would be a broader commodity index or not is not clear at this time, he added.

Cap

Matt Medeiros, president and chief executive of the Institute for Wealth Management, liked the upside potential.

“I think this is a very interesting structure. I like the notes,” he said.

“There is a potential for oil to pull back probably close to the beginning of the year’s levels. But I think it will recover by the end of the year.

“Over the next three years, I’m pretty confident in this index.

“I like the cap. Seventeen percent per annum is pretty good. I don’t see oil jumping back to $100 a barrel over the next three years.”

While oil is a volatile space with “new players potentially entering the market,” he said he trusts the resiliency of the U.S. oil market.

“With the resources that we have here U.S. companies as soon as prices come back up have the potential to reinvigorate their exploration,” he said.

Medeiros also took note of the strong correlation that exists between the underlying equity fund and crude oil prices.

He said he is more comfortable getting the exposure to oil via an equity that reflects the performance of the big U.S. oil companies than via the futures market, which tracks oil prices.

“I like the fact that you’re not making a pure commodity bet. And yet you’re still getting a good proxy for oil,” he said.

“We’re an index shop. We buy and sell equity indexes. We wouldn’t be interested in a pure oil play.”

The notes (Cusip: 61766B275) priced April 18.

Morgan Stanley & Co. LLC was the agent.

The fee was 2.5%.

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