UBS' short-term contingent buffer enhanced notes tied to S&P 500 target risk-averse investors

By Emma Trincal

New York, June 28 - JPMorgan is marketing on the behalf of UBS AG, Jersey Branch a couple of short-term 0% contingent buffer enhanced notes that offer a moderate, capped return and a deep barrier observed at maturity, a structure designed for mildly bullish, cautious investors, sources said.

Both notes are due June 27, 2013 and are linked to the S&P 500 index.

They share features such as downside protection via a barrier, which once breached leaves investors exposed to the full amount of the index decline, according to two separate FWP filings with the Securities and Exchange Commission.

Different barriers, caps

The first deal offers an 80% barrier. If at maturity the index is at or above the 80% barrier level, the payout will be par plus a contingent minimum return of 11.1% and up to a maximum return of 15%.

If on the other hand the index drops by more than 20%, investors will be fully exposed to the loss.

In the second deal, the barrier is set lower at 73.2%, which gives a contingent protection of 26.8% instead of 25%, an advantage over the first product. However, the upside potential is less as it is limited to a 10% digital return if the index finishes above the barrier, with no participation in the index growth above that.

As with the first note, investors lose all protection and enhanced upside potential if the final index level breaches the downside trigger.

Decent return pickup

Steve Doucette, financial adviser at Proctor Financial, said that he likes the simplicity and the amount of downside protection embedded in the products for a short-dated note.

"They're not complex. These are pretty easy-to-understand structures," he said.

"If index is up 3% you collect 11% or 10% depending on the note you pick, so you outperform the S&P even if the index does nothing. Same thing if it's down 19%.

"The only time you don't outperform the index is if it's up above the cap, up more than 10% in one note and above 15% with the other."

Doucette said that if he had to choose between the two, he would pick the second product, as it gives extra protection.

"With the 11%-15% range, the idea really is to capture the 11% and if I'm lucky, I'll get 15%," he said.

"But with Europe, the U.S. fiscal cliff, who knows if the market will be up in a year?

"I'd choose the one with the 28% protection even if I lose 1%, maybe 4% on the upside because it's worth doing that for the extra 8% of additional cushion," he said.

Doucette said that both notes may appeal to cautiously bullish investors.

"It gives you a reasonable way to pick up a little return with some protection," he said.

Absolute comparison

However, Doucette added that when it comes to capping the upside in exchange for a generous downside protection, he would tend to prefer absolute return notes.

Typically, absolute return notes place the downside trigger and the upside cap at quasi-similar levels, hence the term straddle used to designate them, which refers to an option strategy that consists of buying and selling an option at the same strike price.

In contrast, the two UBS notes cap the upside at a lower strike than the downside barrier in relation to the initial price. As a result, if the index finishes negative but above the trigger, investors in these two products may receive less in maximum potential gains than they might with the absolute value payout.

"Before those two, I might look at absolute return notes because I think that I could maximize my returns more easily if I'm down but not down to the point of hitting the barrier," said Doucette.

"Now to be fair, I haven't seen absolute returns on one-year. Most of the time, they're going out two- or three-year," he added.

Bulls' objections

A different category of investors is likely to turn away from those products, he said.

"These two notes won't work for bulls. If you were bullish, you wouldn't look for those deep barriers. This is designed for more bearish investors who are willing to lose some of the upside for a comfortable cushion of downside protection in the 20% to 30% range," he said.

Matt Medeiros, president and chief executive of the Institute for Wealth Management, said that the notes would work neither for bulls nor bears. He said that the risk taken by the investor was not sufficiently rewarded.

"Based on what happened in the last couple of years, I would be more bullish on the S&P. At the same time, I don't like the risk on a one-year associated with that type of upside cap," Medeiros said.

"My concern with the cap structure of the note is that if I'm taking equity risk for a short period of time and not getting rewarded for it, it's not really worth it.

"I understand that you have the downside protection. But this is a barrier, which is risky by definition: once I breach it, I'm on to one to one. I'm not crazy about it."

Medeiros said that he is bullish on the S&P 500 on a valuation basis but that he is more of a long-term bull because a cloud of uncertainty hangs over the next 12 months.

"I would be more interested in the notes if they had a longer duration because I would have more favorable terms and a better return potential," he said.

Part of this view derives from the headwinds market participants are now facing.

"What are the odds of going down 20% over five years? But over one year, this probability is much higher. There is a lot of trepidation in the market relative to all sorts of headline risks, in particular with the euro zone crisis," Medeiros.

"With a longer dated-note, it's easier to get better terms. You could get a 40% to 50% buffer or a much higher cap.

"I don't really see the risk/reward benefits in these two notes. I would invest in neither one of them."

UBS Investment Bank is the underwriter for both notes.

JPMorgan Chase Bank, NA and J.P. Morgan Securities LLC are the dealers.

JPMorgan on the behalf of Barclays Bank plc has also announced or priced several other contingent buffered return enhanced notes recently. Some of the reference assets used in those deals were basket of stocks, basket of commodities, a single commodity (Brent crude oil) and a individual stock (Starbucks Corp.).

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.