Morgan Stanley’s capped dual directional notes tied to S&P 500 index offer mildly bearish play

By Emma Trincal

New York, March 29 – Morgan Stanley Finance LLC’s 0% capped dual directional contingent buffered equity notes due April 16, 2019 linked to the S&P 500 index give investors a fair chance to outperform if the market is in correction mode without extending to bear territory, advisers said.

If the index return is positive, the payout at maturity will be par plus the index gain, subject to a maximum return of par plus 8%, according to an FWP filing with the Securities and Exchange Commission.

If the index falls by up to the knock-out buffer amount of 19.6%, the payout will be par plus the absolute value of the index return.

If the index falls by more than the 19.6% contingent buffer, investors will be fully exposed to any losses.

Post-rally instrument

“It’s a very interesting note,” said Matt Medeiros, president and chief executive of the Institute for Wealth Management.

“It’s more interesting to me now that we’ve seen more volatility in the marketplace,” he added, commenting on the 19.6% range of potential downside gains versus 8% on the upside.

“The cap on the note is in line with our return expectations for the S&P.”

Having the dual directional feature allowed investors to make money in both directions of the market.

“I do like the positive component if it’s in negative territory.

“If we’re in a bear market with more than 20% drop after one year, 20% wouldn’t be enough.”

But Medeiros was not overly concerned about this outcome.

“I do see that the S&P is going to bounce around. We may continue to see volatility in April or May. But I don’t see this correction extending in a 12-month timeframe.

“I do like the note,” he said.

Risk-adjusted return

Steve Doucette, financial adviser at Proctor Financial, offered a mixed assessment.

He said he liked the possibility of outperforming the index on the downside. But at the same time, he said the cap was on the low side. Overall, the risk-reward of the product did not appeal to him.

“At first glance, I don’t like the risk-return. You’re capped at 8% and you have unlimited downside,” he said.

“You really have to be in that range from -20% to +8%.

“The risk here, since it’s not a buffer, is to burst through the barrier and be long the index, taking at least a 20% loss.”

Outperformance zone

The absolute return however was significantly attractive.

“It’s really on the downside that you’re going to outperform,” he said.

If the index finishes up, investors would either be long the S&P 500 index up to the cap or they would definitely underperform the index because of it.

This is why the notes are primarily designed for investors with a mildly bearish bias, he noted.

“You should expect the market to fall. But you have to be fairly confident it won’t fall by more than 20%.

“20% is a lot. It’s a nice chunk of absolute return. But for that, you’re selling away a lot of upside,” he said.

Trading in a band

The notes would be appealing for investors who do not foresee wild market swings, he noted.

“I don’t know if I can limit my view of the potential outcome of a market not rising more than 8% and not going down more than 20%. That’s the problem here.

“If the market continues to go up you could give up a lot.

“If it turns, we know how quickly things turn,” he said.

The notes would be more appealing if the issuer had offered a buffer instead of a barrier.

“At least you would know you’re going to outperform for sure,” he said.

But given the short maturity of the product, pricing a buffer was probably not an option, he added.

“I don’t know how small your cap would end up being. If you keep the note short, how smaller can you get below 8% for a cap? It would have to be lower. That’s not doable.”

Averaging

One positive aspect of the payout, he noted, was the averaging at the end.

According to the prospectus, the final index level will be the average of its closing level on April 5, 2019, April 8, 2019, April 9, 2019, April 10, 2019 and April 11, 2019.

“It’s always a good idea to have the average of the few last days given the volatility,” he said.

“Market is up 300 points one day, down 600 the next day.

“Averaging could save you a huge amount of money. It could be an extra 1 or 2 percent on the return.

“Of course, it can work the other way, but at least it lowers the volatility a little bit.”

The notes will be guaranteed by Morgan Stanley.

Morgan Stanley is agent with J.P. Morgan Securities LLC and JPMorgan Chase Bank, NA as placement agents.

The notes will settle on Wednesday.

The Cusip number is 61768CQ59.

© 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.