Credit Suisse’s $4 million 12% notes tied to swap rates show reverse convertible on rates

By Emma Trincal

New York, Dec. 20 – Credit Suisse AG, London Branch priced $4 million of 12% coupon buffered securities due Dec. 18, 2018 linked to a the spread between the 30-year U.S. dollar ICE swap rate and the two-year U.S. dollar ICE swap rate, according to a 424B2 filing with the Securities and Exchange Commission.

Interest will be payable monthly.

If the final spread of the 30-year swap rate minus the two-year swap rate is at least 40% of the initial spread, the payout at maturity will be par. Otherwise, investors will lose 2.5% for each 1% the final spread falls by more than 60%.

Not a steepener

“We’ve seen this type of deal before. It’s really not a steepener. You don’t have x times the spread as your floating rate. It’s a fixed rate on one year. Very short term, high coupon...” a market participant said.

The structure was very different from most plays on the yield curve, which tend to show much longer tenors, calls, full principal protection and temporary fixed-rates, also known as “teaser” rates as they are payable for a limited period of time only.

“This is basically a reverse convertible deal on a rate,” he noted.

“You get a high, fixed rate because your entire principal is at risk. It’s a completely different structure. I wouldn’t call it a steepener even though you do want the curve not to flatten.”

Easy drop

The current 30-year swap rate minus the two-year swap rate is at 46 basis points. Investors are at risk when the spread declines by more than 60%, a drop to 18.4 bps from the current spread.

Once the spread hits that buffer level, the losses accelerate at a rate of 2.5 times.

“With that multiple, if the curve flattens you could lose your capital fairly quickly,” he said.

“That’s why the coupon is high.”

Short-term rates

ICE Swap Rates are a benchmark for swap rates and spreads for interest rate swaps.

There are many factors driving those spreads, but historically spreads tend to fall when short-term rates are on the rise, according to the prospectus.

When the Federal Reserve raised rates last week, the Treasury curve continued to flatten as a result with the two-year rate rising while the 30-year dropped.

Risk

“This deal plays the steeper curve, it may look like a steepener but it’s not that type of product. A steepener is when you get paid a certain amount of leverage on the steeper curve. Normally it’s capital-protected.

“This one on the other hand is a reverse convertible on the 30-minus-two. It’s like an equity structure but the underlying is rate.”

An industry source agreed with this analysis.

“It’s a high-risk, high-reward type of deal. I’m not sure I’ve seen something like that before, but you’re definitely at risk. The spread can narrow a lot more if the curve continues to flatten and then you’re in trouble.”

Credit Suisse Securities (USA) LLC is the underwriter.

The notes (Cusip: 22550BSG9) priced on Dec. 13.

The fee is 4%.

© 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.