Structured products issuance $279 million for week; RBC issues No. 1 rate-linked notes trade

By Emma Trincal

New York, Sept. 15 – Coming back from the Labor Day weekend, agents priced 99 structured products deals totaling $279 million, the bulk of which consisting of a $100 million rate deal issued by Royal Bank of Canada, which tops the year in size for this asset class, according to preliminary data compiled by Prospect News.

Big rates deal

Royal Bank of Canada’s $100 million of three-year capped floating-rate notes will pay a quarterly coupon equal to the two-year CMS rate, subject to a floor of zero and a cap of 0.5% for the first year, 0.75% for the second year and 1.1% for the third year.

The payout at maturity will be par.

RBC Capital Markets, LLC is the underwriter.

“For someone looking for a two-year exposure, you can get a premium over the two-year Treasury,” said Matt Rosenberg, director at Halo Investing.

The two-year Treasury yields 0.21%.

“This is an institutional trade. It looks like a play on interest rate policy. You’re betting on a rise in the Fed Funds rate. The view is that the front-end of the curve is going to be higher.”

Available data for the previous week ahead of the holiday weekend showed $700 million in 191 deals. These figures remain subject to change.

Solid summer

The summer of 2021 has been much stronger for the sale of structured notes than last year.

This year’s June, July and August combined brought $21.54 billion to the market versus $16.27 billion during the same time last year, or nearly a third more.

Last year’s summer was not best, the data showed. June was the fifth month in notional sales, but August was only the ninth month and July, the second worst month after April.

“Last year saw a sharp sell-off in March followed by a tremendous recovery,” said Rosenberg.

“During the summer, people were not sure the recovery would take hold. There was the risk of a new wave of Covid in the fall and we didn’t have any vaccine. People were on the sidelines waiting to see what was going to happen. They were confused as far as positioning themselves.”

But this year’s summer has been different, he noted.

“We’ve had a continued rally for the past 18 months. We’ve been in this Covid market cycle for quite some time now. People are much more confident,” he said.

Year up 27%

Growth on a year-to-date basis continued to be spectacular.

This year’s tally through Sept. 10 is $61.48 billion, a 26.7% increase from $48.53 billion last year.

“I can see why we would have a strong year. There’s just a lot of excess money in the system,” said Andrew Valentine Pool, main trader at Regatta Research & Money Management.

“The Fed has really added a lot of liquidity in the market. Therefore, the stock market did very well last year and so far, this year.

“When looking for a place to go, structured products are the perfect candidates. It’s a way to diversify from the other holdings in a portfolio.”

Risk diversifier

A market participant attributed part of the industry’s growth to the role played by structured notes in a risk-on market.

“There is a dislocation in the market between signs of rising inflation and how the market reacts to that risk,” he said.

“Either the financial markets have some insight and believe that the inflation is temporary. Or they may misprice the risk.

“Either way, you end up in a scenario where monetary and fiscal policy could drive inflation higher.

“That’s why you want to make sure your portfolio is diversified.”

He elaborated on what true diversification should look like.

“People think they have a diversified portfolio when they own stocks and bonds. But both stocks and bonds will be negatively impacted by inflation. People diversify across assets. They don’t diversify risk,” he said.

That’s when autocallable income-oriented structured notes may be convenient.

“There’s something appealing in having extra premium over fixed income while getting some downside protection,” he said. He took the example of an autocallable with a 70% barrier at maturity.

“Investors bear the risk of a loss beyond a decline of 30%. You get a significant premium for that.

“Let’s say your coupon is 6%. You can keep 2% in the bank and use the rest to buy out-of-the-money puts. That offset some of the downside.

“I can see structured notes as a way to diversify risk, not just diversify assets,” he said.

Tax hiccup

Rosenberg is optimistic about the remainder of the year for sales of structured notes. The only unknown would be tax increases, he said.

“As we move toward the holiday, we should have a better picture about the passage of those trillion dollar stimulus packages. I can’t comment on tax strategies. But if the fiscal stimulus is tied to changes in the tax code and bring higher tax rates, I don’t know how it may impact advisors’ mindset,” he said.

“If the coupon on your note in real terms is diluted because of higher tax rates, it may have implications on issuance volume, and possibly negative implications. I don’t know. This is the wildcard.”

Index pricing eases

Last week saw fewer stock deals than usual. The big rate trade skewed the typical market share for each asset class as rate underliers made for 36% of the total. But the difference between equity indexes (38%) and stocks (17%) was palpable.

“We had a bad week in the stock market. When you see more volatility, it becomes slightly better to price index deals,” said Rosenberg.

The Dow Jones industrial average and the S&P 500 index ended the week in the red. A combination of factors, such as rising cases of Covid-19, signs of persisting inflation and two large banks lowering their GDP projections led to a five-day losing streak. The Dow dropped 2.2%, its biggest weekly decline since June.

On Friday, the VIX index rose above 20 for the first time in a month to 21.13.

“If you can capture more volatility to attractively price index deals, people will trade it. If it fits your yield bogey, there’s no reason not to use indexes,” he added.

“For the year though, the rising trend has been toward stocks and baskets of stocks.”

Targeted investments

On the ETF front, investors last week placed specific bets on both sectors and countries.

UBS AG, London Branch for example sold several deals on the SPDR S&P Oil & Gas Exploration & Production ETF. This issuer also priced a few trades on the iShares MSCI Brazil ETF, which is one of the most common underlying for single country bets.

Bets on India are rarer.

GS Finance Corp. priced two separate 13-month leveraged notes deals on the iShares MSCI India ETF for $11.58 million and $8.21 million, respectively. The payout is double the fund’s gain up to a cap of 11.76% and 10.98%, respectively. Investors will be fully exposed to any ETF decline.

“The Indian ETF is not a very common underlier. But it makes sense,” said Rosenberg.

“For folks who want to get emerging markets exposure but are a little bit concerned about regulatory risks in China, India offers a good alternative. The country has recovered from its Covid crisis, and you have a lot of growth opportunities there.”

The top agent last week was Royal Bank of Canada with its $100 million CMS trade. The bank was also the No. 1 issuer.

The second agent was Citigroup, which priced six deals totaling $54 million. It was followed by UBS.

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