Volume falls 66% to $338 million; sellsiders begin to see slowdown trend behind quiet January

By Emma Trincal

New York, Jan. 26 - Volume continued to be compressed at $338 million, down 66% from the week before, as sellsiders scrambled to find explanations for a trend some believe dates back a couple of months.

The Martin Luther King Jr. holiday on Jan. 17 was not seen as the main reason for the slowdown even though the market was closed that day.

"Volume continues to decline in the U.S. and elsewhere. I was talking to European colleagues, and it's a global trend. It's been slow since Thanksgiving," a New York sellsider said. "There's not much business, and the outlook isn't great."

Agents last week sold $338 million in 60 deals, and there was no sizeable exchange-traded note offering, according to preliminary data compiled by Prospect News.

The week before saw the pricing of $993 million in 88 deals, which did not take into account a $250 million ETN offered by Barclays Bank plc.

Some of the recent trends held last week. Commodities deals were still in favor, with the top offering being a $94.9 million note linked to copper priced by AB Svensk Exportkredit.

Stock-linked products declined in volume but made for a bigger proportion of the issuance, amounting to 44% of the total versus 22% the week before.

Equity index-linked deals fell sharply to 10% of the total from 41% the week before.

One big deal

The top deal was Svensk's $94.9 million of 0% Accelerated Return Notes due March 14, 2012 linked to the spot price of copper, which it priced via Merrill Lynch, Pierce, Fenner & Smith Inc. The deal gave investors a three-to-one leverage ratio and a 32% cap but no downside protection. Alone, this deal accounted for 28% of the week's volume.

"You still have a few big deals done internally by the private banks," the sellsider said. "But the momentum is not there."

Volatility and activity

The months of December and January tend to be more sluggish in the United States as banks prepare commissions and bonuses, sources said. But even still, this month was seen as particularly slow for traditional structured notes.

"January is a slow start to the year. But this January is slower than usual, slower than prior Januaries. Why? It's a great question," said a structurer.

For some, the lower volatility as measured by the CBOE Volatility index is one of the main reasons behind the weaker volume.

Although last week saw a spike in volatility, with the VIX up 16% to close at 18.46 on Friday, the downward trend has prevailed since May 2010 when the VIX peaked at nearly 46. Since then, volatility has fallen by 60%. The VIX is down 17% since Thanksgiving.

"Lower volatility levels make the index deals less attractive. It doesn't pay much," the sellsider said. "People are forced to do more stock-picking by default. That's why you see stock deals being pushed."

Others disagreed.

"Blaming volatility doesn't work all the time," the structurer said. "Yes, volatility has dropped. But when volatility is too high, people say that investors sit on the sidelines. And when it's too low, they blame volatility again. You can't use volatility as the scapegoat for every activity movement."

Stocks, indexes

Opinions were mixed about the impact of volatility on the pace of stock-linked notes issuance versus equity index deals.

"Single-stock deals are pretty strong because it's a business model driven by asset allocation. It's the type of business that sticks," the structurer said.

"The lower volatility is not what's going to increase the volume of stock deals. Actually, lower volatility does hurt those transactions."

Overall, the relationship between stock deal issuance and volatility levels is complex and difficult to establish, sources said.

Last week saw a rise in volatility. Yet, stock-based offerings, which should have risen, especially with structures selling volatility, declined in dollar amount to $147 million from $224 million.

Meanwhile, equity index-linked products fell even more to $34 million from $405 million the week before.

"I just think there is not much index activity because of a lack of appetite for deals," the structurer said. "Volatility has nothing to do with that."

Leverage, no buffer

The attractiveness of leverage, though, was seen as definitely attributable to lower volatility levels. When volatility drops, options are cheaper to buy, which makes leveraged notes cheaper to price and hedge, sources said.

Leverage prevailed as the dominant type of structure last week.

Leveraged notes without downside protection in particular were the top type of structure, accounting for 31% of the total with $105 million.

But sources did not necessarily read much into those numbers as this trend was attributable to one deal: Svenk's $94.9 million of copper-linked notes.

However, the transaction exemplified investors' willingness to give up any form of downside protection for more leverage, a higher cap or both, the structurer said.

He added that the structure made sense and that there were rewards in being exposed to losses at 100%.

"You're giving up the downside protection, but if you're bullish and it's a one-year product, why not? On the upside, you're only giving up returns over 32% after one year. That's pretty good. A buffer costs you money. If you give up the buffer, you get more leverage and a higher cap. On a short-term basis, I think this is one of the best products that's out there."

Commodities bid

Others saw in the popularity of this deal the confirmation that investors are increasingly bullish on precious metals.

"I don't think there's a structural trend here," said the sellsider. "It was a big deal because it's copper. Commodities is what works best right now. Most banks are bullish on precious metals for the next 18 months. If you're bullish on copper, you're not going to be overly concerned with the downside, so this deal may work for you."

Commodities declined in dollar amount to $121 million last week from $224 million the previous week. Yet, the asset class represented an important portion of total sales with a 36% slice.

"Commodities are definitely back in favor. Inflation concerns are driving the majority of the activity," the structurer said.

Another big commodity deal was an add-on.

JPMorgan Chase & Co. increased the maximum amount of 0% daily liquidity notes due Nov. 8, 2013 linked to the J.P. Morgan C.O.P. Commodity index that it plans to sell to $50 million from $30 million.

JPMorgan tops

The top agent for the week was JPMorgan with 39% of the total sold in 19 deals totaling $131 million.

"What else is new? JPMorgan is the most competitive private bank in the Americas," the sellsider said.

JPMorgan was followed by Merrill Lynch, which ranked No. 2 with only one deal, its $94.9 million offering linked to copper. Barclays followed with $31 million sold in eight deals, or 9.25%.

"There's not much business, and the outlook isn't great." - A New York sellsider

"You can't use volatility as the scapegoat for every activity movement." - A structurer

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