Structured products weekly tally at $202 million as CPI report triggers market rally

By Emma Trincal

New York, Jan. 18 – Structured products agents priced $202 million in 69 deals in the week ended Jan. 13, according to preliminary data compiled by Prospect News, as the market continued to rise amid signs of easing inflation.

The headline CPI index fell from 7.1% to 6.5% in December and was up 6.5% year over year after peaking at 9.1% in June.

The S&P 500 index rose 2.7% last week, and the Nasdaq jumped 4.8%.

“After last year’s slump, the stock market is having a good start of the year. But it’s too soon to reach any conclusions. I don’t have a strong view on the market,” said a structurer.

“No one really knows what’s going on. Maybe investors are sitting on the sidelines for that reason. Is it a rebound? Is the stock market going to be weak again? It’s hard to tell.”

Broad diversification

Deals tied to indexes made for 60% of last week’s notional sales as investors are seeking the safety of broadly diversified underliers. But broadly diversified exposure was also achieved through ETFs, which made for 26% of the total. That’s because most ETFs used last week were funds tracking equity benchmarks such as the SPDR S&P 500 ETF Trust, the SPDR Dow Jones industrial average ETF Trust and the Invesco QQQ Trust, Series 1.

Investors departing from sector ETFs in a bid to use those vehicles for exposure to the broader markets is a relatively new trend observed over the past recent months, according to the data.

“There could be a number of reasons for that,” said a sellsider.

“It could be that issuers want to avoid paying the licensing fees on indices. It could be that clients are much more familiar with ETFs, which they use to build their portfolios. Or maybe for issuers, ETFs may be easier to hedge. I’m not sure.”

Stocks down

Single stock underliers last week captured a small market share of 5%. Those deals were smaller than $2 million in size.

In 2022, issuance of stock-linked notes dropped 45% to $11.6 billion from $21 billion in the previous year. Last year’s drop marked a notable contrast with 2021 when this asset class exploded.

The structurer offered an explanation.

“Historically single stock underliers have been tech names, which are more volatile and as a result provide higher coupons,” he said.

“But tech last year was in a very strong bear market. A lot of notes were under water. At the very least they didn’t get called. This especially hurt the notional for stocks.”

The Nasdaq fell by 33% in 2022, its biggest drop since 2008. It is up more than 5% this year.

Energy, finance

Investors have been seeking more diversification across different sectors when picking underlying stocks.

Last week for instance saw the use of blue chips such as General Electric Co. and UnitedHealth Group Inc.

Investors bought exposure to energy stocks such as Chevron Corp., Exxon Mobil Corp. and Kinder Morgan, Inc.

“Energy-related assets are increasingly popular,” said the structurer.

“People are pretty bullish on commodities and energy. Some energy names pay high dividends, which helps pricing. Tech names don’t.

“There is a shift from tech toward energy-asset based.”

Issuers have priced a few commodities notes this year notably on Brent Crude oil.

Morgan Stanley Finance LLC priced $5 million of 13-month digital notes linked to the Brent crude oil futures contracts. JPMorgan Chase Financial Co. LLC and UBS AG, London Branch have also issued notes on the same underlying.

Financial stocks remained in demand. Names such as Wells Fargo & Co., Citigroup Inc., Blackstone Group Inc. were used last week in small autocalls.

“Banks do pay dividends too, but the main factor here is the current level of interest rates,” said the structurer.

“Higher rates can be a positive for banks. As the Fed is still increasing rates maybe investors see the sector as a relatively safe bet.”

Finally, well-known tech stocks continued to be used but in much smaller deals than in the past. The usual suspects included Amazon.com, Inc., Apple Inc., Alphabet Inc., Microsoft Corp., Meta Platforms, Inc. and Nvidia Corp.

Autocall outlook

Autocallable notes represented 60% of total notional last week.

Sources held different views on the future of autocallable issuance based on their respective client base.

For the structurer, a continued decline in volatility could be a headwind for the issuance of income products.

“The pricing for vol. products is tougher when volatility is going down of course,” he said.

“Growth notes on the other hand start to look better especially uncapped growth products because you’re getting higher participation rates.

“We may see a pickup in leveraged notes issuance.”

The lower volatility cheapens the cost of the call options used to lever up the returns, which is what facilitates the pricing of uncapped, higher levered products, he explained.

“There is a shift from income products to growth products. We’re already seeing that.

“As notes mature, people go from income to growth in an effort to recover some of their losses from last year.”

The sellsider’s perspective was more upbeat on autocalls.

“We work with clients who are still uncertain about the possibility of a market rebound. We pitch Phoenix autocalls because we think those notes can benefit from a stock market rebound,” he said.

“People collect a coupon for some time. Then they get called and get their money back.

“By and large they’re looking for double-digit coupons, relatively short-dated notes tied to relatively safe indices with a comfortable level of protection. That’s what our clients are looking for.”

For this sellsider, leveraged notes were not as popular.

“You always have clients who want to score the home run. But as long as investors are uncertain about the market, autocalls will be the best option,” he said.

Bearish take

Not everyone expects a market rebound. For some the decline in volatility seen in this early part of the year should be concerning for bulls.

On Friday, the VIX index dropped to a one-year low at 18.

“One of the clearest signs of an upcoming U.S. equity slump is when VIX slides below 20,” said Steven Jon Kaplan, founder and portfolio manager at True Contrarian Investments.

The lower volatility suggests an “extreme complacency,” along with increased inflows into U.S. equity ETFs, he noted.

“These are two clear signs that the U.S. equity bear market has a long way to go to the downside.”

Last year

Last year’s issuance volume was approximately $10 billion lower than 2021, which was the record year.

Agents sold $89.43 billion in 2022, a 10.8% decline from $100.3 billion the year before, according to the preliminary data.

The number of deals plunged to 21,158 from 30,451, a 30.5% decline.

“We know the reason: the market was down and autocall products didn’t get called,” the sellsider said.

“That said, if the market recovers this year, we could see a reverse of what happened last year. Investors are still holding billions of dollars that could potentially get called. Usually, the ones getting called are getting rolled.”

One caveat though: investors may still have bad memories from last year.

“In the past, the rollover was almost a done deal because people did very well with these autocalls. But with last year’s sell-off there will be deliberations. Some lost coupons, some lost principal. Clients may be more reluctant,” he said.

“If in the past, 80% of the calls were getting rolled – and this is just an example, let’s say we may now have only 60% of it getting rolled. It’s just impossible to tell.

“That being said, we can all use a market recovery. It would help boost issuance, for sure.”

The make-up of autocalls may also slightly change to reflect investors’ skittishness.

“People may realize there is some risk in those autocalls. They may ask issuers to make those products safer. If people in the past were happy with a 30% barrier, maybe now they’ll ask for 40%.”

Stocks may not regain favor any time soon.

“Investors will continue to use indices in their autocalls. They need the diversification. This has been the case for some time and the trend will persist.”

Morgan Stanley was the top agent last week with $64 million in 11 deals, or 31.7% of the total. It was followed by JPMorgan and Citigroup.

The top issuer was Barclays Bank plc, which brought to market eight deals totaling $64 million.

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