JPMorgan’s $2 million digital notes show worst-of based on two affiliated foreign bank stocks

By Emma Trincal

New York, Sept. 19 – JPMorgan Chase Financial Co. LLC’s $2 million of 0% digital dual directional contingent buffered notes due Oct. 3, 2018 linked to the lesser performing of the American Depositary Shares of Banco Santander, SA and the ADS of Banco Santander (Brasil) SA offered the particularity of giving investors a worst-of exposure to the share price of two affiliated banks – the parent company and one of its subsidiaries.

If each stock finishes at or above its 60% threshold level, the payout at maturity will be par plus the contingent digital return of 8.1%, according to a 424B2 filing with the Securities and Exchange Commission.

If either stock falls by more than the 40% contingent buffer, investors will be fully exposed to any losses of the worse performing stock.

Banco Santander, a Spanish company, is a global financial group. Banco Santander (Brasil) SA, based in Sao Paulo, is a subsidiary of Banco Santander (Spain) and the fifth largest commercial bank in Brazil.

Volatility

“These may be two companies that are part of the same group but they’re in different locations and can have very different results,” said Donald McCoy, financial adviser at Planners Financial Services.

“You have to worry about the volatility of each one of the two stocks independently since the bad performance of one only is enough to hurt your position.

“You’d have to do enough research to feel comfortable with it, and it seems like a lot of work to get into a vehicle that’s going to pay 8%.

Brazil

Banco Santander SA has gained 57% over the past year. Its Brazilian subsidiary is up 40%.

“If things can go up that much, they can go down that much too,” said McCoy.

Between the beginning of March and the end of June, the price of Banco Santander (Brasil) SA dropped 34%.

Both names are volatile, especially Banco Santander (Brasil) SA, which has an implied volatility of 36% versus 21% for the parent company’s share price. The S&P 500 index has an implied volatility below 10% in comparison.

“You’re taking a lot of volatility and downside risk on both of these stocks for not such a very high return,” he added.

“The upside is not enough to compensate you for taking that type of risk.”

Dick Bove, bank analyst at Vertical Group, a privately held investment bank, said the Brazilian bank stock was the most likely exposure.

“Banco Santander has a large number of banks in Latin America. The Spanish economy has been improving along with the European economy. But Brazil has been in the midst of a tremendous corruption scandal, which has had a negative impact on its economy,” he said.

“Banco Santander Brasil is the most likely to do poorly at this point.”

Good credit

Steven Foldes, vice-chairman at Evensky & Katz / Foldes Financial Wealth Management, said he would not consider investing in the notes. But he stressed some of the benefits first.

“JPMorgan is a very fine credit. The length of the notes is good,” he said.

But the relationship between these two companies, which are part of the same group, was “unclear” in his view.

“If it’s a worst-of you have to ask yourself what’s the likelihood of one falling by more than 40%.

“You have a Spanish bank and a Brazilian bank and both of them have high levels of volatility and can generate significant losses.

“Certainly a 40% barrier is one that can be breached.”

For that level of risk, investors did not receive enough in return, he said.

Risk-adjusted return

“The upside is almost asymmetrical. You could be clobbered if there is a significant decline but you can’t really benefit from the appreciation,” he said.

Foldes said the deal would be much more attractive if the digital payment did not “cap” the upside, citing structures that allow investors to participate to unlimited gains above the digital minimum payment.

“I realize that with this one you can get the 8% if the stock is down a lot, down up to 40%. But that’s all you’ll ever get. This digital doesn’t give you the full benefit of the upside. Meanwhile a breach of the barrier beyond 40% is certainly possible,” he said.

The notes are guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes (Cusip: 46647M6V0) priced on Sept. 12.

The fee is 1%.

© 2015 Prospect News.
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