Issuance doubles; reverse convertibles make strong comeback after Finra's release, sources say

By Emma Trincal

New York, March 3 - Volume more than doubled to $1.73 billion in the week ended Feb. 26 in a typical end-of-the month push, market participants said.

There were no exchange-traded notes of any significance, but there were five deals in excess of $50 million. The largest was a $142.4 million sale by Bank of America Corp. of 10% STEP Income Securities due March 7, 2011 linked to Ford Motor Co.

Reverse is back

The strong resurgence of reverse convertible supply was the main surprise of the week as well as the pricing of a noteworthy volatility-based structure brought to market by Deutsche Bank AG, London Branch, sources said.

Agents priced $541 million worth of reverse convertible notes in 250 transactions.

This supply amounted to a third of the week's volume and 70% of the total number of deals, according to data compiled by Prospect News.

For sources, the boost was directly related to the Financial Industry Regulatory Authority's recent release of a well expected regulatory notice on those products, which brought some relief among firms as it was not as negative as feared.

"The week saw a strong push in reverse convertibles. It may be because a lot of firms were out of the market pending the comment of Finra. Now that the uncertainty is lifted, issuers may feel that they can get back in the market because nothing in the Finra notice is unreasonable," a New York sellsider said.

Finra issued its notice on Feb. 16. During the week prior to this release, reverse convertibles amounted to 16% of the volume of structured products issuance and just a little bit over a third of the number of deals, according to Prospect News data.

For the first six weeks of the year up until the end of the week that preceded Finra's release, reverse convertible issuance accounted for 15% of the weekly average volume and 56% of the weekly average number of deals.

"I'm not really surprised that issuers are relieved by the language in the Finra notice. With that news digested, the reverse convertible market is back to business as usual," said a structurer also based in New York.

Ford leads

Bank of America issued the largest deal of the week with a step-up structure linked to the share price of Ford.

Sources said that the 10% coupon made this structure particularly appealing to investors seeking income.

In addition, investors were attracted to the underlying, as Ford is one of the best-performing stocks of the S&P 500 index, they noted.

Volatility gem

Market participants also paid attention to a notable deal brought to market by Deutsche Bank and based on a volatility arbitrage strategy.

Deutsche Bank priced on Feb. 23 $64.69 million of 0% S&P plus tracker notes due March 28, 2011 linked to a basket of indexes that included the S&P 500 Total Return index and the Deutsche Bank Equity Mean Reversion Alpha index, also known as "DB Emerald."

The basket level on any day equals 100 plus the return of the S&P 500 Total Return plus three times the return of the DB Emerald.

Created in October by Deutsche Bank, the DB Emerald allows investors to take a long position on daily volatility while shorting weekly volatility. It is a volatility arbitrage strategy that provides equity portfolios with a hedge, sources said. Despite the complex structure, Deutsche Bank sold this deal to a unique client - a registered investment adviser, according to a market source.

"This Emerald deal is a pretty impressive success story. Deutsche doesn't have an internal distribution capacity. It's not an easy structure, it's not an easy index to understand, and they had to explain it," said the sellsider.

"In addition, a registered investment adviser is not even getting paid to buy it. RIAs by definition, or at least in theory, can't get paid to participate in a transaction because they charge a flat fee. They're not brokers paid on a commission; they're fiduciaries. Therefore, it looks like the RIA believed that it was a good product."

Others stressed that incorporating volatility strategies into structured notes reflects the growing popularity of volatility trading plays among retail investors looking to add a non-correlated asset class to their portfolio or to hedge downside moves in an uncertain equity market.

"Utilizing their Emerald index has allowed Deutsche to replicate key aspects of a successful institutional structure to allow them to custom tailor a solution to fit the view of their [registered investment adviser] client. I would expect to see more of this in the near future," the structurer said.

Despite some decline, investors are still showing interest in commodity-linked notes, sources said.

Bank of America priced the third-largest deal with $64.3 million of 0% Accelerated Return Notes due May 3, 2011 linked to the price of silver using a three-times leverage factor and a 34.26% cap.

As usual, equity basket deals were virtually non-existent with only one small deal pricing.

"It's hard to get people to invest in stocks," the sellsider said. "Inflation is big right now. People are looking for high yield. They want income. Commodities, alternative alpha, rates, foreign exchange, that's where it's easier to sell right now," said the sellsider.

Morgan Stanley up

For the week, JPMorgan ranked only fourth, after Morgan Stanley, which took the third slot.

Merrill Lynch was the top agent with $591 million sold in 18 deals for 35% of the total, followed by Barclays with $371 million in 183 deals for about 22% of the market share.

The ranking of the two top agents is the same as the year-to-date ranking.

Morgan Stanley climbed up due to a series of rate deals linked to the CMS curve or Libor, which priced in the $20 million to $25 million range.

In addition, Morgan Stanley priced the fourth-largest deal of the week with the $63.79 million sale of 10% annualized Equity LinKed Securities due Aug. 27, 2010 tied to the share price of Wells Fargo & Co.

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