JPMorgan’s PLUS due 2016 tied to S&P 500 index to fit market calls for less bullish 2015

By Emma Trincal

New York, Jan. 2 – JPMorgan Chase & Co.’s 0% Performance Leveraged Upside Securities due May 4, 2016 linked to the S&P 500 index are ideal securities for investors expecting lower single-digit growth in U.S. equities for the upcoming year, a market participant said.

The payout at maturity will be par of $10 plus triple any gain in the index, up to a maximum return of at least 12% that will be set at pricing, according to an FWP filing with the Securities and Exchange Commission.

Investors will be fully exposed to any decline in the index.

Good timing

The notes are seen as an instrument enabling investors to outperform the benchmark in a small growth environment.

With a one-year and three-month duration, the maximum return is 9.5% per annum on a compounded basis. Investors could reach the cap with an increase in the S&P 500 index as small as 3.2% per year.

“The timing could be right for this trade,” the market participant said.

“There are definitely some headwinds coming into 2015. In the U.S. we have the Fed hike looming.

“In Japan, it remains to be seen if Abenomics are finally going to work. So far [Japan prime minister Shinzo Abe] has been lowering interest rates but also raising taxes. Now that he has enough political momentum, he could put off the tax issue. But for now, Japan is still in recession.

“We don’t know what’s going to happen in the euro zone. Greece is starting to flare up again. The European Central Bank’s balance sheet expansion will boost Europe a little but it’s going to be too little too late. The stimulus is only $1.2 trillion. They can’t do much anyway because it’s not centralized like in the U.S.

“Deflation in general is a big issue in Europe.

“Oil’s slide may not be as great for growth as expected. Whatever consumers may gain from it is offset by the weakening of the energy sector, which will impact GDP growth negatively.

“It seems like the S&P is probably going to go up, but not in double-digit mode. If equity returns are subdued in 2015, this trade offers a chance to outperform the market.”

Investors are compensated for the lack of downside protection in his view.

“There is no barrier and no buffer. But it’s very short-term. Plus, your downside exposure is only one-to-one versus three-to-one on the upside.”

Other sources however objected more strongly to the full downside risk. They compared the notes with income strategies, which they said offered more upside potential, in some case with less risk.

Dividend capture

Talking about the notes, William Garrison, president & co-chief investment officer at Garrison Bradford & Associates, said: “It’s in the realm of betting and we don’t do that.”

His firm generated a 25% annualized return by simply buying preferred stock dividends – timing the strategy ahead of ex-dividend dates.

“We buy quality names before they go ex,” he said.

Dividends are announced on the ex-dividend date. Buying and selling ahead of that period can generate profits as the value of the stock increases near the ex-date.

“The stocks we buy may or may not be marketable. Bank dividend preferred are not marketable but they offer 3% to 4% in dividend yields.

“We screen the securities that are trending upward. We buy the stocks and the dividends and sell it for more. We can generate a stream of 2.5% to 3% each month and we repeat the process with new names the next month. We’re happy with our strategy. It’s a game that we know.”

Short-term tradeoff

John Farrall, senior vice-president of derivatives strategies at PNC Wealth Management, said he could find a better alternative to the JPMorgan notes with an income product.

“You have a cap and no downside protection at all. It’s just a call on the S&P capped at 10% for the year. It’s a very retail product,” said Farrall.

He said he understood why some investors would agree to buy the notes with no downside protection.

“If I have a cap, I want to have either a barrier or a buffer. I can understand why some investors would give up protection though. Instead of a buffer they are getting a very short-term investment. For some, giving up the downside protection for a short maturity is a decent trade off or at least something they value more than the protection. That’s not the case for me,” he said.

Worst of alternative

Farrall compared the JPMorgan leveraged participation product with an income product he said he recently bought.

He cited HSBC USA Inc.’s $1.2 million of autocallable plus notes due Dec. 31, 2015 linked to the common stocks of Halliburton Co. and Nabors Industries Ltd.

The notes (Cusip: 40433BWE4) priced on Dec. 26.

“It’s an autocallable worst of but it’s not callable for the first six months. It’s also very short-term. You get a 21% per year coupon if the worst of is above a 50% coupon barrier on a quarterly observation basis. Given how much both stocks have lost recently and given the very low barrier, we’re pretty confident that the odds of collecting the 21% coupon are quite high even with a worst of,” he said.

In the past three months, the share price of Halliburton has dropped by 36%. During that time, Nabors Industries lost 42%. Both stocks have seen their price fall by approximately 25% over the past 12 months.

“If both stocks are above their initial level, you get called. As long as none of the two stocks drop by more than half, you get this 21% return, which is much higher than the 10% on the capped leveraged note.

“On top of that, you also have a substantial protection on the downside that’s missing with the JPMorgan deal.

“HSBC gives us a 50% barrier at maturity on the worst performer. We feel that given the current valuations, such low level offers a rather solid protection.

“I’ll take that type of deal over the three-time leveraged note because one, I get some protection, and two, my upside potential is much higher,” he said.

The notes (Cusip: 48127P218) are expected to price Jan. 30.

J.P. Morgan Securities LLC is the agent with Morgan Stanley Wealth Management as distributor.

© 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.