Issuance falls to $221 million amid market rally, volatility index plunge, innovative ETNs

By Emma Trincal

New York, Oct. 13 - Volume dropped to $221 million, down more than two-thirds during a week characterized by a market rally, a drop in volatility and two innovative exchange-traded note offerings.

Sources said that the decline in issuance volume was due as much to the month cycle - last week was the first week of October - as to the decline of reverse convertibles, which fell to $14 million in the week ended Friday from $136 million in the last week of September, which represents a fall to 6% of the market share from 20% the week before.

"It's the beginning of the month; volatility fell; the market was up. Fewer deals got done," said a New York structurer.

Agents sold 41 deals last week, or five times fewer deals than the week before when 224 transactions priced, according to data compiled by Prospect News.

Issuance fell amid a strong equity rally, and sources said that the two phenomena were related.

The S&P 500 was up nearly 2.5% last week while volatility as measured by the Chicago Board Options Exchange Market Volatility Index (or VIX index) was down 12% to 20.71 from 23.53, nearly breaking below 20, a level it finally reached on Monday for the first time since May.

"Many products sell volatility. When volatility collapses as it did last week, fewer deals get done," the structurer said.

"And with the rally, people think twice before buying an 80% or 70% barrier. They wait for a correction."

There were also fewer large deals last week compared to the week before. There were four deals in excess of $10 million being issued compared to 15 during the prior week.

Within that range, no deal over $50 million hit the market. In contrast, two deals of that size priced the week before, one of which was for $100 million.

However, deals last week reached a bigger size on average - $5.3 million versus $3 million the week before, according to data compiled by Prospect News.

Reverse convertibles suffer

Sources attributed the lower level of total sales to the sharp decline of reverse convertibles issuance. Just in the number of deals, reverse convertible issuance dropped noticeably to 11 deals from 132 deals. The largest reverse convertible - a Morgan Stanley note linked to Yahoo! Inc. - priced at $3.58 million only.

"Reverse convertibles took a hit last week," said an industry source.

A sellsider said that "the weak overall volume was due either to the fact that last week was the first week of the month or to the decline in volatility," but added that "I think it's the cycle. The first week of the month tends to be light."

"We haven't seen a noticeable decline and we're protecting our deal," he added.

"But when volatility drops, reverse convertibles get impacted quite severely."

Equity-linked issuance reclaimed its lead with 80% of the total in 28 deals totaling $176 million, which contrasted with the prior week, which recorded an unusual drop in equity-linked issuance relative to other asset classes at 48% of the total.

Index appeal

Yet in absolute numbers, equity-linked issuance fell to $176 million from $333 million. The bulk of this decline came from stock deals, which plummeted to $30 million, or 13.5% of the total, from $175 million, or 25% of the total.

Equity index-linked products saw their volume decline only moderately to $143 million from $167 million and their share, as a percentage of total volume, grew to 65% from 23%, according to data compiled by Prospect News.

As a sign that the appetite for equity benchmarks was greater than for stocks last week, nearly two-thirds of equity transactions were linked to an equity index.

The six largest deals of the week were also based on an equity index.

Again, sources attributed this result to the sharp volatility drop.

"Lower volatility is good for indexes," said the industry source. "When volatility is low, people can get more leverage because they can buy more options."

"When volatility is up, index options are expensive," said Norman Pappous, president of Evaluate My advisor and a former index-linked notes structurer in London.

"When volatility drops, you either hedge volatility or you execute deals at that point."

The top deal was based on the S&P 500.

Eksportfinans ASA priced $45.3 million of 0% Strategic Accelerated Redemption Securities due Oct. 21, 2011 linked to the S&P 500 index via Merrill Lynch, Pierce, Fenner & Smith Inc. The call premium was an annualized return of 9.96%, and investors enjoyed a 10% buffer.

Goldman Sachs Group, Inc. priced the second-largest offering with $34.14 million of 0% index-linked trigger notes due April 20, 2012 linked to the S&P 500 index.

Finally, Bank of America Corp. priced the third-largest deal with $15.1 million of 0% Market Index Target-Term Securities due Oct. 30, 2015 based on the Dow Jones Industrial Average. The structure was capped but offered full downside protection.

While the market has turned more bullish, uncertainty remains.

The attractiveness of the indexes is also related to investors' desire to reduce market risk.

"People don't want the correlation with certain sectors. That's the problem with stocks. They prefer a diversified underlying. They don't necessarily care for financial exposure or energy exposure. They want diversification," said the structurer.

The other asset classes did not do as well as equity, except for rates deals.

Commodity issuance plummeted to $4 million in three deals versus $185 million the week before, when the asset class represented a healthy 27% of the market.

Currencies continued to show signs of distress with no offering last week and only $9 million sold the week before.

Rates deals progressed in percentage of the volume to 8% from 3.5% but fell in absolute terms to $18 million from $24 million.

Goldman Sachs priced the top rate deal: an $8.2 million offering of 0% swap rate-linked notes due Oct. 12, 2015 linked to the 10-year U.S. dollar interest rate swap rate.

Autocallables were the best-selling structure even though there was only one deal in this category - the top offering from Merrill Lynch at $45.3 million.

All in one, the deal and the structure category accounted for 20% of the total volume.

The second category was ETNs with $18 million offered through four products, none of which exceeded $6 million in size.

Two noteworthy ETNs

Sources paid attention to two of last week's ETNs despite their small size as they were used in innovative products or trades.

The first one emanated from Credit Suisse AG, Nassau Branch, which added $6.02 million of its 0% ETNs due Oct. 6, 2020 linked to the Credit Suisse Merger Arbitrage Liquid Index (Net) index, bringing the total deal size to $21.02 million after a $15 million sale on Oct. 1. The bank plans to issue up to $1 billion of the notes listed on the NYSE Arca under the symbol "CSMA."

The market source said that the product "came at the right time."

"Corporations have a lot of cash to put to work. They're hunting for companies to buy. There's an increase in M&A activity. Portfolio managers have more bets to make. If they're good, they'll make more money on those bets. And if they make mistakes, their mistakes will get diversified," the market source said.

The second newsworthy deal was JPMorgan's introduction on Monday of its two double short US Treasury ETNs.

JPMorgan Chase & Co. sold $5 million of 0% double short US 10 year Treasury futures exchange-traded notes due Sept. 30, 2025 linked to the NYSE US 10 Year Treasury Futures index.

The notes are listed on the NYSE Arca, Inc. under the symbol "DSXJ."

Additionally, JPMorgan sold another $5 million of 0% double short US long bond Treasury futures exchange-traded notes due Sept. 30, 2025 linked to the NYSE US Long Bond Treasury Futures index.

The notes are listed on the NYSE Arca, Inc. under the symbol "DSTJ."

"The double short on Treasury is a beautiful product. I'm not sure if the timing is ideal. But it's a good idea because rates are going to go up at some point," the structurer said.

Goldman tops tables

Goldman Sachs topped the league tables last week, selling $68 million in six deals or nearly 31% of the total.

October has been a good month so far for Goldman.

While the bank is only No. 6 year to date, it has moved to No. 1 this month, with 42% of the market share.

"Goldman is penetrating this market with their huge deal rates," the structurer said.

Goldman was the second agent in the rates category last week with its $8.2 million swap deal, behind JPMorgan, which was first due to its two new ETNs on Treasuries.

The same ranking prevailed for October as of Wednesday.

Merrill Lynch was the second most prolific agent for last week with $60 million sold in two deals, accounting for 27% of the total issuance.

It was followed by Barclays with $23 million in seven deals and 10.5% of the volume.

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