Bank of America's bear notes offer high participation rate, but ideal range is small, analyst says

By Kenneth Lim

Boston, March 27 - Bank of America Corp.'s planned accelerated bear product linked to the S&P 500 index offers an unusually high participation rate, but a good payout only occurs in a small band of index levels, said structured products analyst Suzi Hampson of Future Value Consultants.

Bank of America plans to price zero-coupon Bear Accelerated Return Notes due July 2010 linked to the S&P 500.

At maturity, the notes will pay par plus 500% of any decline in the underlying index, subject to a maximum total payout of 111% to 114% of the principal. The exact cap will be set at pricing.

If the index finishes flat or up by no more than 10%, investors will receive par. Investors will lose 1% for every 1% that the index finishes above 110% of its initial level. Investors will not receive less than zero.

Merrill Lynch is the agent for the offering.

High participation rate

The 500% participation rate if the index declines is unusually high, Hampson said.

"I tried to compare them to accelerated bullish products, but I couldn't find an example with five times gearing," she said.

One product that was useful to compare to was a planned series of leveraged buffered notes due October 2012 linked to the S&P 500 by the Goldman Sachs Group, Inc.

At maturity, the payout will be par plus triple any gain in the index, subject to a maximum total payout of 125.5% to 130% of the principal. Investors will receive par if the index finishes flat or declines by no more than 20%. Investors will lose 1.25% of the principal for every 1% that the index declines by more than 20%.

"It's got a higher maximum amount, but the gearing is lower," Hampson said.

Bearish products tend to come with more attractive headline numbers, she added.

"You would probably be able to get better terms on a bear product for a couple of reasons," she said. "The most important being, if you think of it as an accelerated bullish product, the worst possible outcome is if the index reaches zero, which is a very small possibility. But if you think of the worst outcome in this bear product, it's if the index reaches 110% above the initial level, and logic tells you that's more likely to happen."

A bet that the market is headed downwards could also be against current sentiment, she said.

"If you're taking a bearish strategy, then you're sort of going against the expected direction of the index," Hampson said.

Small changes

Investors in the bear notes are likely to expect only small changes in the index either way, Hampson said.

"For small falls in the index, this product will do very well," she said. "If it's a large fall or a large decline in the index, it will probably underperform some other bearish products."

Having a maturity that arrives in 14 months rather than a shorter-term product could have helped investors to get more attractive terms, Hampson said.

"I think you'd be more likely to get better headline terms with a 14-month product," she said. "Over 1.5 years there's more chances of you at the barrier than over six months, because you'd expect the index to move more in 1.5 years than in six months."

In the United Kingdom, longer-dated products are the norm, and headline terms tend to be more attractive across the Atlantic, Hampson said.

"In the U.K. where we see a lot of longer term products, you have a lot of kick-out and income products with headline rates of 7% to 8%, which you couldn't get with one- to two-year products," she said.

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