Big week puts year-to-date volume on par with last year; new issues amount to $1.46 billion

By Emma Trincal

New York, July 31 - The last full week of July ended Friday was one of this year's most active in structured products issuance, helping year-to-date volume finish finally flat from last year, an improvement from prior weeks and months when a persistent negative gap reinforced a downward trend for 2013.

Agents sold 205 deals in the week ended Friday totaling $1.46 billion, according to preliminary data compiled by Prospect News. It was the fourth best week of the year and represent 6.80% of the year's $21.46 billion sold as of Friday. The top week was the last week of June with $1.85 billion, or 8.60% of the yearly total, according to the data.

July as of Friday lags behind the comparable period of June. The volume declined by 12.5% to $2.40 billion for July from $2.74 billion for the June 1 to June 27 period. However, the month of July has gained a lot of momentum compared to a year ago, showing a 20.75% increase from the notional $1.98 billion that agents sold last year during the same period.

Sales for the year as of Friday are finally on par with last year's $21.46 billion, up 0.28%.

"That's a very good momentum. We are on a good trend. We're catching up with last year, and that's pretty good," a market participant said.

"We're now flat from last year. That's really a positive sign compared to earlier this year when we were down 7%, 7.5%. I'm happy to see we're in the black.

"You still have the potential for anomalies. No statistics are ever perfect. There's still a possibility that you had a huge deal last year after July, so this is not a final picture for sure. But it's encouraging."

Last week saw the pricing of three deals in excess of $100 million, all sold by Bank of America. This dealer priced 57.5% of the week's total in only 20 deals, naturally taking the top spot. It was followed by UBS and Morgan Stanley each capturing about 8% of the market.

Small shops, big firms

The market participant said that bigger firms are increasingly gaining market shares in today's regulatory environment.

"Despite all the talk about advisers leaving the wirehouse and setting up their own shops, people continue to stick with the big firms. The big firms continue to push their own products. And I think the regulators contribute to that trend. They're helping the big firms, and to a certain extent they are hurting the little broker-dealers," he said.

"People have to move away from principal protection products given current pricing conditions. The top deals that are being sold are all principal-at-risk products. Smaller broker-dealers are being challenged because some of the products can't get approved. The more timely products for today's market can't get approved. So inevitably, the power is shifting back to firms that have their own distribution.

"Bank of America is a great firm. I respect them. But they don't have the monopoly of manufacturing products. We all know that innovation can be immediately copied by other firms. What they do, other firms can do it as well. Funding costs are somewhat of a factor. But funding costs come and go, and they're not the real story. I don't think you can attribute Bank of America's success to its funding rates. The bottom line is distribution. In theory, smaller broker-dealers could do the same thing. But Finra is not helping at all.

"Smaller firms can't get new products approved with all the regulatory scrutiny. But the big guys have the manpower, the ability to get those deals approved. This is why the big firms, like Bank of America, continue to dominate the market and will continue to dominate the market for quite some time."

Volatility helping

Recent changes in the market have helped volume in general, said a structurer.

"Those issuance numbers are good," he said.

"To me, the pickup in volume is totally a function of the market. You had a bit of a scare at the end of June. Volatility picked up as a result. It allowed people to do these autocallable, buffered leveraged notes because you really get good terms in those conditions.

"Since we had to live for a long time in a low-volatility environment, this switch in volatility was a big driver. People jumped in.

"Also, people are concerned about a possible sell-off. Some of the structured products offer something unique, some level of downside protection, which makes them increasingly popular.

"In my sense, the main factor behind the recent volume improvement is the market.

"But sometimes you also have a bit of legacy. Some products are rollovers from last year. That may be the case this month, although usually July is kind of weak. But it looks like this year, July was a pretty good month."

A $166.29 million deal

Leveraged notes with a buffer or barrier accounted for 31% of last week's total volume.

The top deal used this structure type. It was Bank of America Corp.'s $166.29 million of 0% Leveraged Index Return Notes due July 27, 2018 linked to the Dow Jones industrial average.

The structure offered a 109.6% upside participation rate and a 30% buffer on the downside.

"There's not much leverage, but there is a big buffer," the market participant said.

"This is a long-term bullish structure. If you were a short-term bull, you would use a structure that provides more leverage on the upside.

"The view is that we may have a correction within the next five years but hopefully by then the market will be up again. So you're hoping that the market will bail you out.

"Ignoring dividends, you outperform everything even if it's not by a lot."

The second most successful structure was market-linked step up notes. They amounted to $350 million, or 28% of the volume.

Bank of America priced the top product in this category. The No. 3 deal of the week, Bank of America Corp.'s $102.21 million of 0% market-linked step-up notes due July 27, 2018 tied to the S&P 500 index, featured a 129.72% step-up value. If the index finished above the step-up value, the payout at maturity would be par plus the index return. Between zero and the step-up value, the payout would be par plus the step-up payment of 29.72%.

Investors would receive par if the index fell by up to 20% and would lose 1% for every 1% decline in the index beyond 20%.

Popular step-ups

"Those structures have a lot of appeal right now," the market participant said.

"They offer a type of enhanced return that's valuable for mildly bullish investors. It's easy to have a less than fully bullish view on the market right now. The S&P is close to 1,700. Since the beginning of the bull market in March 2009, it has already more than doubled. Fewer people are aggressively bullish.

"These step-ups provide another form of enhanced return. Instead of the leverage, you get this step-up payment. But if you're wrong, if the market turns out more bullish than your view, you can also participate.

"You'll do better if the market is moderately up, but you won't be hurt if it's up more than the minimum return. That makes those products very attractive."

Ten step-up deals priced last week. The second largest one was HSBC USA Inc.'s $51.69 million of 0% market-linked step-up notes due July 31, 2015 linked to the Euro Stoxx 50 index. The step-up value was 128.58%. There was no downside protection. Bank of America was the agent. It was the fourth largest issue last week.

Leveraged notes with no downside protection continued to be popular, making for nearly 20% of the volume.

The top one and the second largest deal of the week was Bank of America's $124.43 million of 0% Accelerated Return Notes due Sept. 26, 2014 linked to the S&P 500.

The notes offered three times leverage subject to a 12.36% cap.

Interest rates represented 3% of the market in two deals. One of those came from a smaller player. Bank of Nova Scotia priced the top rate-linked product and the eighth largest offering for the week in its $34.5 million of callable steepener notes due July 29, 2033. The first year's interest rate was 9%. After that, the rate became four times the spread of the 30-year Constant Maturity Swap rate over the two-year CMS rate.

"It's not a new structure. Morgan Stanley did a ton of this type of 20-year paper. Eventually, you have to have someone else issue it. You have to diversify. And I think that's the value of having a different name," the structurer said.

Stock-picking

The year-to-date issuance saw more equity-linked notes than last year, according to the data. They increased to $17.09 billion, or 79.42% of the volume, from $16.43 billion, or 76.56% of the volume.

The structurer said that it was not surprising.

"Equity has performed really well this year. We haven't had such a year in equity in a while," he said.

The share of single stocks has increased by 12.75% to $4.80 billion. This asset class represents 22.29% of the volume, compared with 19.83% last year. Meanwhile, equity index notes have remained flat in volume at less than $12 billion, or 55.5% of the total.

"When equity markets go up, people tend to pick stocks because there is a larger dispersion across stocks," the structurer said.

"When the market is down, everything goes down together. But when it's up, you have more diversification with stocks. ... You have the winners and the laggards.

"I think we have a chance to see issuance volume picking up later this year. It's going to depend on volatility of course. Volume was slow this year because volatility was low, which made it hard to sell deals. But things may change soon.

"With the Fed tapering, rates will go up and volatility will start picking up too. That will make terms more attractive for structured products."

"I don't think you can attribute Bank of America's success to its funding rates." - A market participant

"I think we have a chance to see issuance volume picking up later this year." - A structurer

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