Explosive growth in structured products this year as sales jump 40%; worst-of deals lead for week

By Emma Trincal

New York, June 14 – Structured product issuance volume for the year continues to exhibit strong signs of health. Agents have priced $22.57 billion through June 9 versus $16.10 billion last year, an increase of more than 40%, according to preliminary data compiled by Prospect News.

The number of deals is up 70% to 5,760 from 3,380 during the same time a year ago.

Strong growth

“There’s higher consumer confidence. People want exposure to the market,” a market participant said.

Commenting on the contrast between 2016 and this year, a sellsider said: “It’s a cyclical business. In an up market with not so much volatility clients are confident. But it can change any time. Remember January last year when after that there was no business for six months.”

The week ended Friday was the first week of the month. Agents sold $270 million in 120 deals. Those volume figures are likely to be revised upward as it has been the case with data for the preceding week, now showing $635 million in 147 deals.

Correlation trade

The main “theme” in last week’s production was the use of worst-of structures mostly based on equity indexes. Pairs or trios consistently showed the S&P 500 index, the Euro Stoxx 50 and the Russell 2000 in variable combinations.

“There is demand for these products because interest rates are still low. Plain and simple. People want yield and structured products deliver that,” the market participant said.

Total volume for equity worst-of deals issued last week amounted to $168 million, a 62% market share.

Nearly half of the number of deals issued last week fell into the worst-of category.

“There’s still a lot of value in the correlation trade,” the sellsider said, referring to worst-of deals. “It’s becoming more and more mainstream.

“Investors are more and more comfortable with the risk. Distributors and advisers are also much more familiar with it and they’re promoting it.”

Let it roll

The acceptance of worst-of deals among investors is a virtuous cycle: most of those products are callable or autocallable, leading to repeat deals.

“It rolls. Those notes get called. It keeps on coming back.

The rollover of notes, in particular worst-of, getting called or automatically called is part of the volume growth story in the overall market, he said.

“It’s not the only reason. But from our own standpoint, we’ve seen a lot of it since the beginning of the year,” he noted.

“Another main factor of course is the global trend that tends to be bullish.”

Modest hikes

The quest for yield remains a key driver behind the surge in sales volume this year, including the popularity of worst-of structures.

“Look, we’re in the middle of the year. Rates are still low. Nothing has fundamentally changed. It’s a matter of how you define higher rates? Are we talking about an extra 25 basis points or are we talking about the doubling of the rates?

“Investors know rate hikes are going to be incremental. They’re still hungry for yield,” he said.

The Federal Reserve announced a 25 basis point rate hike, as expected, on Wednesday.

Index-based trades

Among worst-of trades, the breakdown between on the one hand equity indexes – and to a lesser degree, exchange-traded funds – versus on the other hand, single-stocks, largely gives the advantage to the former. Indexes and ETF underliers made for 90% of last week’s worst-of volume against 10% for stocks.

Equity indexes-linked worst-of deals are also bigger with an average size of $2.85 million versus $0.50 million for the single-stock worst-of deals.

Yield boosters

Worst-of structures allow issuers to offer competitive coupons.

“If you pick two or three underlying that have most of the time a lower correlation and potentially higher volatility, that increases your coupon,” said the market participant.

“On the negative side, you have to form an opinion on several underlying. If you don’t mind being put the worst stock or the worst index at that price, if you feel comfortable with the risk, then it’s fine.

“It’s just that to form an opinion on different companies or sectors requires a different kind of analysis. It’s a decision process that’s a little bit more complicated.”

Worst-of deals tend to be short-dated, which also reflect an overall market trend. Last week’s average tenor was two-and-a-half years all for the market in general.

Seven worst-of trades with a 10-year maturity were the exception. Those were contingent coupon notes issued by a GS Finance Corp., Barclays Bank plc and Wells Fargo & Co.

Weak rates issuance

Interest-linked notes were not on display last week. One exception (and the only deal on this asset class) was Barclays Bank plc’s six-month $7.3 million of 8.7% trigger securities linked to the 30-year U.S. Dollar ICE Swap Rate minus the two-year U.S. Dollar ICE Swap Rate.

“It’s a matter of trend,” the sellsider said commenting on the low supply of rates offerings.

Prospect News’ methodology does not treat as rate-linked notes synthetic structured coupon deals, which comprise step ups, fixed-to-floating notes and capped floaters.

“There’s been a lot of talk on the Street about rates. Things are already priced in. The play now is in the equity market,” the sellsider said.

“Not everyone has a view on the 30-year minus two or the shape of the yield curve. Today the yield is found in equity indices. People talk about how long the indices are going to go up, not so much about interest rates.”

Top deals

GS Finance Corp. priced the top offering with $18.81 million of 10-year autocallable contingent coupon notes linked to the S&P 500 index and the Euro Stoxx 50 index, according to the preliminary data.

Each quarter, the notes paid a contingent coupon at an annual rate of 7% if each index closed at or above its coupon barrier, 70% of its initial level, on the observation date for that quarter.

The notes will be automatically called after one year on any quarterly observation if each index closes at or above its initial level.

The barrier at maturity was 50% of the initial price based on the lesser-performing index.

UBS AG, London Branch priced $17.37 million of callable contingent coupon notes due Dec. 16, 2021 linked to the worst performing of the MSCI EAFE index, the Russell 2000 index and the S&P 500 index.

The annual contingent coupon rate was 8.5%. The coupon barrier was 70% of the worst-performer’s initial price observed on a quarterly basis. The issuer could call the notes on any quarter after three months. The barrier at maturity was placed at 60%.

The top agent last week was UBS with 74 deals totaling $56 million, or 20.85% of the total. It was followed by Barclays and Bank of America.

“There’s higher consumer confidence. People want exposure to the market.” – A market participant

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