Issuance volume growth hits new records, up 42% for the year; tech stocks nabbed for vol play

By Emma Trincal

New York, June 21 – Agents continue to benefit from a positive yet highly valued stock market, which has pushed investors to buy more structured notes, according to sellsiders.

Data compiled by Prospect News confirms it: issuance volume this year is up 42% to $23.22 billion from $16.40 billion last year through June 16.

Meanwhile the number of offerings surged more than 70% to 5,957 from 3,489.

Boost

“That’s a big jump,” an industry source said, who offered an explanation.

“The equity market feels very toppish but it keeps on going up. For investors, it’s just not go and buy the market anymore. They want a refined payout, something you get with leverage or protection. I think in the recent past structured notes clients have been responding much faster to market conditions. That’s why we’re seeing this growth in volume at this time.”

Some of last week’s priced deals were not yet seen on the Securities and Exchange Commission website by press time and therefore, have not been accounted for. Weekly data tend to be revised upward from week to week. As a result, last week’s numbers are presumably an under-estimate.

Based on this conservative assessment, sales amounted to $261 million in the week ended Friday versus $479 million the week before. There were 79 deals versus 167 the previous week.

Month

Monthly volume showed a 38% decline versus the comparable period in May, with $870 million sold through June 16. Again those numbers are subject to increases after updates, which could erase or reverse the decline.

Measured against a year ago, however, volume for the month is already up 31% from the $664 million seen through June 16 in 2016.

Summer temperature

As last week was the last one before the beginning of summer, sources were wondering if the usual seasonal slowdown is to be expected.

“At this point, June has been my second best month of the year,” the sellsider said.

“Issuance has become very much market-driven. If the market starts to get active, if we get some headlines and more volatility, we could have very good business in July and August.”

Market conditions

“We haven’t had a great market for structured products for the last couple of years. Low interest rates and low volatility have been a real issue and we’ve grown pretty slowly,” a sellsider said.

Volume was down more than 12% last year from 2015. From 2014 to 2015, issuance grew less than 4%, according to the data.

“Now we’re year nine into a bull market. We’re approaching a record time without the Nasdaq having taken a big correction. So the big question is, how long can this go on?”

With a mix of bullishness and uncertainty regarding the longevity of the bull market, structured products appeal to investors, he added, pointing to two types of buyers.

Cautious bulls

The first category was investors still bullish but cautious as a result of stocks perceived as richly valued.

“If you don’t want to take your money off the table, if you’re still bullish but think we’re due for a correction a structured note can give you market exposure and protection at the same time,” he said.

This is the purpose of leveraged notes with a buffer or a barrier, he noted.

Those were the second most popular structure last week, accounting for 30% of the volume, according to the data.

Neutral players

Secondly other types of structured note buyers seek higher yield on the view that future stock gains may be subdued, he explained.

“Investors with a very neutral view who believe that the market is relatively fully valued but don’t see negative headwinds that could drive a correction, those people want yield-based structures,” he said.

“When you can deliver 6% to double-digit returns subject to market conditions and when you consider equity returns over the long term to be around 8%, a reverse convertible or an autocall can definitely help you beat the market. For many investors, this is a great bet.”

Such products are bid for the yield but not uniquely for it.

“They’re for investors who don’t expect the bull market to expand very much.”

Income prevails

As it has been the case so far this year, autocallable contingent coupon notes fell into the most popular group of products last week.

A total of $124 million in 50 offerings belong to this category, which was almost half of total volume.

Worst of notes linked to indexes represented the lion’s share of this type of products.

However last week showed something slightly new with a spike of technology stocks used for these autocallable reverse convertible deals. The yield remained contingent but the notes were structured on a single asset – the stock – as issuers took advantage of last week’s volatility spike in the tech sector to boost coupons instead of resorting to what has become the more traditional use of correlation risk via a worst of.

Tech stocks

The use of technology was market-driven, sources said.

The stock market ended mixed with the Dow Jones Industrial average hitting a new record high while the Nasdaq remained under pressure, especially in the later part of the week, dropping close to 1% on the week.

That was when issuers priced those yield-oriented notes linked to single technology stocks.

The proportion of deals linked to single-stocks was not particularly high last week (6.70%) compared to the yearly average of 11.45%. But notes linked to a technology stock made up $12.80 million notional, or 71% of the single-stock notional.

“It’s a reaction to the technology selloff,” said the industry source.

“Tech stocks took a hit and people were looking to buy them on the dip.”

The names used for those deals were the usual suspects, such as Alibaba Group Holding Ltd., Amazon.com, Inc., Micron Technology, Inc., Netflix, Inc., Nvidia Corp. and Microsoft Corp.

“People like those stocks to begin with,” the source said.

“With prices falling, volatility went up, which makes those reverse convertibles very attractive. It’s a relief compared to the low volatility you have on the S&P.”

Rates on pause

Less successful were rate-linked notes, none of which priced last week.

Prospect News, in its definition of rate-linked notes does not include step-ups, step-downs, fixed-to-floaters and capped floaters, a separate class of lightly structured notes.

A factor behind this scarcity of supply, according to the industry source, was the existence of distortions between a relatively transparent Federal Reserve, leading to easily anticipated hikes and the market’s skepticism about the pace of future tightening given low inflation.

“It’s difficult to have an opinion on the short-end of the [yield] curve where rates are closely managed by the central bank,” the industry source said.

It looks like the Fed is sticking to its program and slowly hiking rates despite what the market thinks of the economy and inflation.”

Following the script

One factor for this slow activity could be bets taken earlier this year, which have gone wrong.

“People have lost so much money by going short Treasuries, expecting rates to rise,” he said.

The 10-year Treasury yield debuted the year at 2.45%. After rising to a 2.62% high in March, it is now below its January level at 2.15%.

The curve has flattened this year making steepener notes less popular, he noted.

“But I think overall, it’s because you have this mix of uncertainty around the long end of the curve along with a very low volatility on the short end as the Fed is doing a fairly good job at managing expectations.

“When the next move is more or less known, deals are more difficult to put together.”

The sellsider said he is still seeing steepener trades, in particular on the 30-year minus the two-year spread and the 10-year minus the two-year. But he agreed that the future remains uncertain.

“People thought rates would have gone up by now. They haven’t,” he said.

“We know rates are going to steadily go up. It’s just a matter of when. People have been waiting.”

Top deals

Barclays Bank plc priced the week’s top deal with $38.28 million of 10-year contingent income callable securities linked to the Euro Stoxx 50 index.

An annualized contingent coupon of 9.25% will be paid on a quarterly basis at or above a 75% coupon barrier.

After six months the notes can be called on a quarterly basis.

A 60% barrier offers contingent protection at maturity.

UBS AG, London Branch priced $25.28 million of two-year capped leveraged buffered notes linked to a basket of indexes.

This was a repeat deal. The same basket, including the components and weightings, has been used many times before over several years, according to Prospect News data. The word is that investors buying those notes want an alternative to the MSCI EAFE index, the equity benchmark for developed countries excluding North America.

The basket consisted of the Euro Stoxx 50 index with a 37% weight, the FTSE 100 index with a 23% weight, the Topix index with a 23% weight, the Swiss Market index with a 9% weight and the S&P/ASX 200 index with an 8% weight.

The upside leverage factor was 1.5 times up to a 37.65% cap. There was a 10% geared buffer on the downside with a 1.11 multiple.

Top ETF deal

The third deal, linked to an exchange-traded fund, inflated last week’s volume for this underlying asset class.

Fund-linked notes made for 12% of total volume with $32 million issued in eight deals, an exceptionally high proportion of the market. As it turned out, most of it came from JPMorgan Chase Financial Co. LLC’s $25.06 million of two-year trigger autocallable notes linked to the VanEck Vectors Oil Services ETF.

JPMorgan Chase Financial is the issuing subsidiary of JPMorgan and the notes were guaranteed by JPMorgan Chase & Co.

The notes will be automatically called on a semiannual date at a 12.9% per year premium if the ETF share price is above its initial price. A 70% barrier at maturity observed point to point provides 30% contingent protection if the notes are not called.

The agents were UBS Financial Services Inc. and J.P. Morgan Securities LLC.

Overall, the top agent last week was UBS with $70 million priced in 41 deals, or nearly 27% of the market.

It was followed by Barclays and JPMorgan.

UBS was also the top issuer for the week for the same volume amount, indicating that the firm sold its own deals, at least based on the filings with the SEC.

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