UBS' notes tied to stock basket present balanced portfolio, enhanced return but no protection

By Emma Trincal

New York, July 16 - UBS AG, London Branch's 0% Performance Leveraged Upside Securities due Sept. 5, 2013 linked to a basket of 15 common stocks offer a diversified underlying portfolio with the potential for high returns, sources said, but the absence of any downside protection makes the product suitable for only a limited number of investors.

The basket includes equal weights of Anadarko Petroleum Corp., Apple Inc., Calpine Corp., Honeywell International Inc., JPMorgan Chase & Co., Kraft Foods Inc., Marsh & McLennan Cos., Inc., Penn National Gaming, Inc., Thermo Fisher Scientific Inc., United Technologies Corp., UnitedHealth Group Inc., V.F. Corp., Visa Inc., Watson Pharmaceuticals, Inc. and Williams Cos., Inc., according to an FWP filing with the Securities and Exchange Commission.

The payout at maturity will be par of $10 plus triple any basket gain, up to a maximum return of 15.7% to 19.7% per note. The exact cap will be set at pricing. If the index falls, investors will be exposed to the loss.

Stock picks

Financial advisers said that the blue-chip portfolio is well balanced.

"It's a pretty diversified basket. A lot of the main sectors are there. It's very representative of the market," said Carl Kunhardt, wealth adviser at Quest Capital Management, citing energy, technology, financial services and health care as some of the main sectors.

"I don't invest in individual stocks. To me, if you're going to purchase a stock, you need to know that company as if you were going to purchase all the shares of that company. We don't follow individual companies. It's just not our strategy," he said.

"You have here a concentrated portfolio but one with sufficient exposure across all the major sectors of the large-cap universe. In that case, it would be no different from investing in a focused equity mutual fund."

Focused equity funds typically invest in a limited number of stocks, usually less than 25.

"It definitely has a good upside too. Three times leverage on the upside, no leverage on the downside. It may provide a replacement for an equity position as a pure enhancer. But it does nothing to reduce risk. As such I could consider it for aggressive investors but certainly not for my moderate or conservative portfolios," he said.

Morningstar approach

Michael Kalscheur, financial adviser at Castle Wealth Advisors, found some of the product's terms to be positive, such as the 13-month maturity, the leverage and the underlying portfolio, despite the fact that he avoids investing in "pre-packaged" stock baskets. But overall, the lack of protection makes the risk/return profile unappealing to him.

"You have to bet on the portfolio somebody else has put together. I don't get comfortable with that. But I analyzed this 15-stock basket using Morningstar, and I was pleasantly surprised," Kalscheur said.

Morningstar consolidates sectors into three "super sectors" called cyclical, defensive and sensitive.

Sensitive industries fall between the defensive and cyclical industries. A bad economy would hurt a cyclical stock the most, a defensive stock the least and the sensitive stock would be in the middle, according to Morningstar.

"The basket was well diversified with about a third of the portfolio in each of the three Morningstar categories," Kalscheur said.

"They're a little bit underweight communications. But it's not bad. And the portfolio as a whole had a beta around one with a very positive track record. This group of stocks has performed strongly against the S&P 500 in the past three and five years.

"Even without Apple, whose performance enhances the other stocks, they did a pretty good job at putting together 15 complementary stocks. From a risk standpoint, you're very much in line with the S&P 500."

Another benefit, Kalscheur noted, is the short duration of the notes.

"UBS is single A. It's not on the top of our list. But the 13 month mitigates some of the issuer's credit risk," he said.

Risk versus reward

Kalscheur said that he likes the upside but not the risk-adjusted potential performance.

"Three times leverage on the upside, no leverage on the downside, who is not going to like that? That's a pretty good deal," he said.

"Problem is the cap for the risk. You've got three times leverage up to 16% with no downside protection at all. I'm not terribly excited by the risk/reward profile of this investment.

"If something crazy happens, if we go to another recession, you could lose 30% a year from now very easily.

"I'd much rather have 1.5 times on the upside and a 10% buffer on the downside.

"The 2% fee is also too high for having no protection.

"It's not all bad. But I would pass."

UBS Securities LLC is the underwriter, and Morgan Stanley Smith Barney LLC will handle distribution.

The notes will price on July 30 and settle on Aug. 2.

The Cusip number is 90268U721.

© 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.