Citigroup’s PLUS linked to Euro Stoxx 50 to serve as substitute for European equity allocation

By Emma Trincal

New York, March 13 – Citigroup Global Markets Holdings Inc.’s 0% Performance Leveraged Upside Securities due July 5, 2018 linked to the Euro Stoxx 50 index offer a “reasonable” alternative to a long position in the euro zone benchmark, advisers said.

The notes will be guaranteed by Citigroup, Inc., according to a 424B2 filing with the Securities and Exchange Commission.

If the final index level is greater than the initial index level, the payout at maturity will be par of $10 plus 300% of the index return, subject to a maximum return that is expected to be at least 31.3% and will be set at pricing.

If the final index level is less than the initial index level, investors will be fully exposed to the decline.

Non-U.S. core

Advisers said that investing in the European equity market is part of the core allocation for any diversified portfolio.

“If I’m going to be a financial planner using a mix of dynamic and strategic allocation, I’m always going to invest in non-U.S. equity,” said Carl Kunhardt, wealth adviser at Quest Capital Management.

“The preponderance is going to be the developed markets. ... Then the conversation begins and always almost ends with Europe. It’s the nature of the beast.”

The Euro Stoxx 50 is the equivalent of the Dow Jones industrial average, he added.

“They are the 50 mega companies that on a cap-weighted basis drive the European economy.

“It’s the core of the core of the non-U.S.”

Given the choice between the index fund and the notes, Kunhardt said he favors the structured product.

Term, leverage

At slightly less than 16 months (1.31 years), the tenor is an advantage.

“It’s not forever,” he said.

The lack of downside protection is not a concern compared to the fund. Both investments have one-to-one downside exposure.

“There’s no additional risk except that I’m adding some credit risk but over a short period of time,” he said.

On the upside, Kunhardt said the benefit is clear.

“Do I want to get 1x or 3x the index? The answer is obvious.”

The cap is the price to pay for the three-times leveraged exposure.

On a compounded basis, the cap is 23% per year. It can be achieved if the index is up less than 9% a year.

Cap, fees

“OK, now they cap me at 23%. Based on the current market do I have any expectation that the Euro Stoxx 50 is going to exceed 23% in one year? Absolutely not,” he said.

“The cap doesn’t matter. What matters is that I’m literally long an index with 3x on the upside.”

Kunhardt considers the fees associated with the notes – a 1.75% underwriting fee and a 0.5% structuring fee – as relatively standard.

“If the structuring fee offsets the ETF fee, I’m really only paying the underwriting fee,” he said.

The ETF carries an expense ratio of 0.6%, which is close to the 0.5% structuring fee.

“Am I willing to pay one buck seventy five for three times leverage on the upside? Probably.”

Low upside risk

Kirk Chisholm, wealth adviser and principal at Innovative Advisory Group, said the cap is an attractive element of the structure.

“Given the state of the market, if you’re going to have some exposure to the Euro Stoxx, I don’t think there is a great probability that the index would go up more than the cap in the next 15 months,” he said.

“It could, but either way, you’re still doing OK.”

For instance, if the Euro Stoxx 50 rose 10% over the term of the notes, investors would still be up 30%, just in the neighborhood of the cap.

“When you’re capped, there’s always a risk of losing on the upside, but it’s not a big risk with this note.”

Equity replacement

Chisholm said that European stocks are a key component of any global portfolio.

“Any diversified portfolio should have diversification to other parts of the world,” he said.

“If you’re going to invest in Europe, this would be a good substitute as a piece of your allocation.

“This would give you much more possibilities on the upside.”

Chisholm said Europe offers opportunities at the moment.

“The fundamentals are improving. From a technical perspective it has broken out,” he said.

“There’s still a lot of risk, but there’s always risk.”

Dividends

Investors would have to consider the non-payment of dividends as a determining factor when comparing the notes with the ETF. The dividend yield is 3.27%. Over the term, investors must forego 4.3% of dividends.

“This is a simple note to explain to a client. It’s based on a reasonable expectation. All you’re really giving up are the dividends,” he said.

Given the short maturity and the three-times leverage, the unpaid dividends over the term would be offset by an index increase of only 1.43%.

“It’s worthwhile considering it as a substitute for the Euro Stoxx.”

Citigroup Global Markets Inc. is the underwriter. Morgan Stanley Wealth Management is acting as a dealer.

The notes will price on Wednesday.

The Cusip number is 17325E648.

© 2015 Prospect News.
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