Issuance still ahead of 2012 at $4 billion; investors focus on bullish deals, stock picking

By Emma Trincal

New York, Feb. 13 - Issuance volume is still strong for the year. Agents have sold $4 billion as of Feb. 9, compared with $3.4 billion during the same period last year, a 17.65% increase, according to data compiled by Prospect News.

Market participants attribute the growth to the bullish sentiment fueled by an increasing appetite for risk.

"There's a general sentiment that the market is going to take off on the upside," a sellsider said.

"Most people are bullish, and the risk-on trade is back. People are going into more risky products which provide income."

Agents last week sold $303 million, a 64% decline from the previous week, which was exceptionally strong with $834 million sold. But last week represented the real beginning of February; the previous week had included some of the late January deals.

Good start

"It's the start of the year. People are looking for the best way to position their portfolio. Advisers are having nice, meaningful conversations with their clients," the sellsider said.

"It's even more true than usual because the sentiment is more bullish this year."

"We've got quite a good start. Everyone seems to be bullish. Everyone is prepared to invest in equities," said Tom May, partner with Catley Lakeman Securities.

"We've noticed a lot of investments that got called; people got their money back [and] needed to reinvest it."

Investors picked more risky assets for the underlying of the notes they bought, the data showed.

Notes linked to single stocks last week represented a little bit over 30% of the total versus 46% for equity indexes.

"When volatility is so low, you can't get income from indexes, so people move into stocks," the sellsider said.

The prevalence of leveraged notes without buffers or barriers and single stock-linked notes sold as reverse convertibles, autocallables or a hybrid between the two were among the two main trends seen last week, according to the data.

Risk on

Leverage with no downside protection was the most favored play as the result of investors' increasing eagerness to capture more upside, according to sources commenting on the data. A third of last week's volume, or $99 million sold in 11 deals, was of this type of structures, compared with a 13.5% market share the prior week.

In contrast, leverage with buffers or barriers accounted for less than 17% of the volume last week.

"Leverage remains in high demand. When we talk to our clients, they're not looking for anything too funky; instead, they want the more traditional leverage," the sellsider said.

For the year, leveraged notes with no downside protection amounted to a quarter of the total versus 16.5% for products with buffers or barriers.

"We're noticing more bullish structures, leverage with higher caps or higher gearing. When volatility is low, leverage is attractive," May said.

Leveraged deals were not uniquely structured around the S&P 500 index. More volatile indexes were often used such as the MSCI All-Countries World index or the Euro Stoxx 50, which was employed in the top deal of the week. It was Wells Fargo & Co.'s $40.28 million of 0% enhanced return securities with upside participation to a cap and 1-to-1 downside exposure due Aug. 7, 2014 linked to the Euro Stoxx 50 index. The leverage factor was two and the cap 58%.

Another leveraged deal with no downside protection, and the third in size last week, was brought to market by Goldman Sachs Group, Inc., which priced $20 million of 0% leveraged index-linked notes due Feb. 12, 2018 tied to the S&P 500. The notes were uncapped with an upside participation rate of 184%.

Picking stocks for yield

Investors expressed more appetite for single-stock deals last week. Stocks amounted to more than 30% of the total versus slightly over 20% in the week before. Equity indexes on the other hand saw their market share decrease to 46% from 51%. For the month, stocks were present in 27% of the total versus 16.5% in January.

Reverse convertible deals saw their market share expand last week to 15.35% from 5.5%, in particular airbag structures or buffered types of products.

Royal Bank of Canada priced the top reverse convertible deal with its $18.47 million of 6.5% coupon-bearing notes due Feb. 28, 2014 linked to the common stock of MetLife, Inc. BofA Merrill Lynch was the underwriter for the deal, the No. 4 deal of the week in size.

Interest was payable quarterly. There was a 5.35% buffer.

The quest for income remained an important theme, with investors willing to invest in single stocks in order to pick up more volatility, sources said.

"Volatility is low. Coupon pricing is not brilliant. But we're still trading because people need the yield and they are happy with the payoff even if it's less than what they're used to," May said.

"People seeking income look for alternatives, and stocks are good place to be when you're trying to pick up yield," the sellsider said.

"Generating income is an important goal for a lot of investors. Given the lack of good yielding products, structured notes do have a story, which fits with what the current environment is. Our clients are responding more to structured notes than before."

Autocallables, which accounted for a little bit less than 8% of last week's volume, doubled in notional amount to $23 million from $11 million.

"We're not seeing as much autocallables as it would be if volatility was higher. But people are still buying," May said.

Complexity

Issuers are working to find ways to offer higher coupons through worst of or autocallable contingent coupon deals, sources said.

One drawback may be complexity, they noted.

Those deals often have several barrier levels depending on whether the barrier determines the occurrence of a coupon payment, a call or the amount of principal repaid at maturity. Observation dates vary with the barriers, and the interest rate is not fixed but rather contingent upon the performance of the underlying.

Sources noted that contingency comes with added layers of complexity, which makes for a tough sale to advisers.

"Advisers react to complexity differently. For some who have already educated their clients in the first place, adding more conditions or additional levels of complexity is not such a big deal since their clients have already jumped the initial level," the sellsider said.

"There are still plenty of investors who like the upside offered by those products and who want to take advantage of it.

"But it's true that advisers can have some aversion for complexity. It takes time to explain the product.

"The products we make are very simple. Clients like very simple securities.

"If you were to poll the market today, you would find that most investors are in favor of simplicity."

Introducing contingency in those autocallable contingent coupon notes can also significantly reduce duration, the sellsider noted.

"It's being done because it's all about pricing," he said.

"If you a have shorter term, less money to spend on the option, you need more contingency to get a higher potential payoff. If you go longer, you can get rid of many of the conditions and create something much more straightforward."

The top autocallable deal and the fifth largest issue of the week was Bank of America Corp.'s $17.43 million of 0% Strategic Accelerated Redemption Securities due Feb. 24, 2014 linked to the common stock of Citigroup Inc.

If the price of Citigroup stock closed at or above its initial price on any of three quarterly observation dates beginning Aug. 9, the notes would be called with a 14.61% premium per year.

Investors would receive par at maturity if the share price fell by up to 5% and would be exposed to losses beyond 5%.

All asset classes were down last week compared to the prior week except interest rates.

One deal only contributed to an increase in volume for notes tied to rates. It was Goldman Sachs' $31 million of callable quarterly CMS spread notes due Feb. 11, 2028 linked to the 30-year Constant Maturity Swap rate and the five-year CMS rate.

Interest was 9% for the first year. After that, it would be four times the spread of the 30-year CMS rate over the five-year CMS rate minus 20 basis points, up to a maximum interest rate of 9.25% per year.

Goldman Sachs was the top agent last week with $77 million sold in nine deals, or 25.5% of the total. It was followed by Wells Fargo and BofA Merrill Lynch.

"When volatility is low, leverage is attractive." - Tom May, partner with Catley Lakeman Securities

"If you were to poll the market today, you would find that most investors are in favor of simplicity." - A sellsider

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