BMO’s notes tied to Raymond James tax reform stock basket offer access, show political risk

By Emma Trincal

New York, June 6 – Bank of Montreal’s 0% notes due Jan. 7, 2019 linked to a basket of stocks give investors access to a well-recognized equity research and a pro-growth investment theme, which contributed to fuel the Trump rally after the November elections, buysiders said.

For investors who value access to a theme or strategy more than a defined outcome via the use of options embedded on a note, the product may be appealing. But those buysiders emphasized the costs and risks associated with the market-linked product.

The underlying basket is comprised of 17 stocks selected by the equity research department of Raymond James & Associates, Inc. that may stand to benefit from the Trump administration tax plan announced in April, according to an FWP filing with the Securities and Exchange Commission.

The structure does not provide any enhanced return, cap or downside protection as traditional structured notes do. Investors receive slightly less than the basket performance as the final return is multiplied by 98.85%. As a result, the basket level percentage must exceed 101.16% in order for investors to receive more than par, according to the prospectus.

Convenient

“It makes sense for the ease of purchase,” said Tom Balcom, founder of 1650 Wealth Management.

“If you have 100 clients who like this portfolio, you’re better off buying it in one instrument with one Cusip.”

Another advantage was the well-diversified quality of the underlying portfolio, he said.

By sectors, the basket is diversified across services (four names), health care (four), financials (three), consumer goods (two), industrials (two) and technology (two).

17 stocks

The basket includes the stocks of Apple Inc., Beacon Roofing Supply, Inc., Big Lots, Inc., Bioverativ Inc., BofI Holding, Inc., Comcast Corp., Cisco Systems, Inc., CSRA Inc., E*Trade Financial Corp., HCA Healthcare, Inc., Lannett Co., Inc., Republic Services, Inc., Synnex Corp., SVB Financial Group, SkyWest, Inc., Tempur Sealy International, Inc. and UnitedHealth Group Inc.

The main appeal of the notes, Balcom added, was to have access to a well-defined investment strategy and the skills of an equity research group known on the Street for its successful track-record.

“For the adviser, it’s an easy story to tell. If the client believes in Raymond James and if they like the tax reform theme, that’s the way to get clients to act,” he said.

“We may not have tax reform right away or it may not happen. But if it happens, you are well positioned to benefit from it.

“You can always buy the stocks individually yourself. But replication has a cost too. It’s complicated when you manage many different clients’ accounts. This product is a pure access play. It keeps things simple,” he said.

Gauging the risk

Still, investors had to examine the tradeoff and decide if the notes were appropriate given the risks and cost.

“You have to give up some return with the 98.85% participation. You also have to forgo dividends,” he said.

Perhaps getting a participation rate of less than 100% was the bigger issue as the average dividend yield of the basket was only 0.82%.

“Getting 98.85% instead of 100% is the equivalent of a fee. Personally I’m not a big fan of paying a fee on something I can do myself,” he said.

“But I can also see the benefit of doing it because it’s much easier. In that way, it makes sense.”

Process

Donald McCoy, financial adviser with Planners Financial Services, was more skeptical.

First the idea of “relying” on Raymond James analysts to do the research without really knowing how the stocks were selected was not appealing to him.

“Why 17 stocks? Why those sectors? I’m not saying Raymond James analysts are good or bad... But we don’t know anything about their process. Do they pick stocks based on accounting issues? Is it market positioning?”

Another issue was the uncertainty around the vote itself.

“We don’t even know right now if there is going to be any tax bill this year,” he noted.

“If something doesn’t get done by September, does anything get done this year at all?”

Washington

Moreover, the content of a potential tax reform remains unclear.

“The announcement in April was a piece of paper with no details,” he said.

Some have argued that companies that have many assets overseas – for instance in sectors like technology – could benefit from a repatriation plan because their taxes would be cut when bringing back money to the United States, he noted.

“But it depends on the nature of this relief. And what about a border tax? How would that affect other sectors? Again we don’t know if the reform will pass and we don’t know much of what the administration wants to do,” he said.

Toppish market

Finally the current market environment raised some red flags too.

“You’re going to buy a note with limited liquidity in a market that has elevated valuation and there is no downside protection. We haven’t seen a major correction yet, but there is a lot of potential volatility ahead,” he said.

Overall, investors are subject to many risks.

“You’re taking political risk. You’re taking market risk...In order to get this basket, you’re buying an instrument that has no dividend and no downside protection. By getting less than the full return, you’re paying a lot for the hope of picking the right stocks assuming – which we don’t even know for sure – that we do get tax cuts.

“It sounds more like a sales job rather than an investment.”

BMO Capital Markets Corp. is the agent.

The notes will settle on June 30.

The Cusip number is 06367TXN5.

© 2015 Prospect News.
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