Slow week sees issuance of two larger CMS issues ahead of Fed decision, flurry of tiny deals

By Emma Trincal

New York, Jan. 29 - Issuance weakened in the short holiday week ended Friday as market participants were awaiting the Jan. 29 Federal Reserve Policy statement.

Meanwhile, an abrupt emerging markets sell-off took investors off guard, which was not conducive to putting new money to work, sources said.

Lackluster volume

Agents sold $430 million in 125 deals last week, a 45% drop in volume from the prior week, according to data compiled by Prospect News.

"It's a little bit depressing, but it was a short holiday week and we only had four days. A lot of the deals have yet to come and hopefully big ones, as Bank of America Merrill should print this week," a market participant said.

For the year, sales are down by a third from the same period last year as of Jan. 25. They have fallen to $1.95 billion from $2.90 billion, the data showed.

For the month so far, volume is down 20% from the same period in December, which saw the pricing of $2.43 billion.

"It's a little bit surprising given that January is usually a big month. January is when investors are trying to put together their portfolios and banks are trying to get volume," the market participant noted.

"It's a little slow, and it might be similar to what we're seeing in the broader investment universe," said Michael Davis, partner at Varick Asset Management and former structurer at Lehman Brothers and Barclays.

"There is a bit of a hangover from last year.

"People were so interested in getting back to the market last year, using structured products to do it in a more risk-controlled, risk-targeted way.

"Maybe they now want to keep the trades in their books and see how they work. It's hard to get huge volume each month.

"We've seen a few divergent data points in the economy, and the market performance has been more volatile. It's not the kind of environment conducive to putting new money in the market."

Steepener bets

The week was dominated by two larger steepener deals from Citigroup Inc. and a flurry of tiny offerings, mostly linked to single stocks.

Interest rates notes were the top asset class, totaling $115 million, or 27% of the total, in only four deals.

Single stocks represented 21% of the total in $89 million sold in 69 offerings. Equity index-linked notes regained momentum, accounting for a third of the total in 33 offerings.

Citigroup priced the two top offerings, which were both callable leveraged Constant Maturity Swap rate spread notes.

Citigroup's $60 million of callable leveraged CMS spread notes due Jan. 29, 2034 linked to the 30-year CMs rate and the two-year CMS rate was the largest one. The interest rate is 11% for the first year. After that, it is five times the spread of the 30-year CMS rate over the two-year CMS rate minus 25 basis points, subject to a maximum interest rate of 11% per year and a minimum rate of 0%.

On the same day, Friday, the firm priced $40 million of fixed-to-floating callable leveraged CMS curve-linked notes due Jan. 29, 2029 linked to the 30-year CMS rate and the five-year CMS rate. The interest on the first year and cap are 10%. The return is five times the spread.

Both deals offer full principal protection at maturity and a call feature kicking in after two years.

"The pricing for both Citigroup deals looked very good," said a rates sellsider from another New York firm.

"It was the best [rate] structure out there for the month of January. The leverage and the caps were attractive."

The timing for those deals was not surprising, said Davis, occurring ahead of the FOMC two-day meeting.

"Now is an interesting time to do that with the Fed meeting [Wednesday]. Up until recently there was consensus, but the economic data has been less consistent, so there is some additional risk than anticipated before," Davis said.

"Bull steepeners like these are more and more in favor. People have been debating their views whether the yield curve will flatter or steepen. These types of deals are a way to express one's view, and you want to express it when there is that kind of uncertainty, before the catalyst happens."

The use of different points of the curve in different deals may reflect the added uncertainty introduced by the Fed, he said.

"At normal times, you would be interested in one point of the curve only. But the Fed is operating at multiple points of the curve. The Fed fund stuff, the monetary policy has more of an impact on the shorter end, and the [quantitative easing] program has introduced a new level of complexity, impacting more the long end," he said.

"The story right now is when will QE end, how quickly will it end and what impact will it have on the market. Steepeners have become super popular for that reason."

Shrinking equity

Equity-linked notes saw a drop in volume last week and also for the year so far.

Agents sold $235 million of notes linked to equity underliers, including single stocks, baskets of stocks, indexes and exchange-traded funds. Sales in this asset class declined 66.5% from the previous week, according to the data.

Equity issuance has fallen 25.5% so far this year to $1.52 billion from $2.04 billion during the same time last year.

"Yes, we've heard from clients that equity has not done as strongly as many people had anticipated," the market participant said.

Tiny deals

Another characteristic of last week's activity was the great number of very small deals. Out of 125 offerings, 97 were less than $5 million in size, according to the data. Among those small deals, two-thirds were linked to single stocks.

UBS was the main agent for the smallest deals, those with a notional of less than half a million, as well as the leader for most stock deals, the data showed. But many other agents not known to do small offerings were also involved in the pricing of less than $5 million deals, including Morgan Stanley, Goldman Sachs, JPMorgan and HSBC.

"I think this pretty much reflects the fact that volume is slow right now and that we're not at the end of the month yet," Davis said.

"We may see big rollovers at the end of the month, which is this week - today, Thursday and Friday. You can do a lot of business in three days. But apparently, there were no big rolls last week. As January is a little late in terms of notional, firms probably were trying to make it up.

"I'm surprised we had so many small deals though, and I don't know if it's a new phenomenon or a trend. But I would guess it was a way to adjust to the lackluster demand.

"We'll have a clearer picture when some of last year's trades mature or maybe trades of the year before."

For the rates sellsider, printing smaller deals simply reflects issuers' desire to honor the reverse inquires emanating from their clients.

"The cost of doing these deals is not expensive to do. This is a stock picker's market. They're just trying to satisfy the needs of all their clients. Why wait to get somebody else to do the deal? It's a competitive environment out there," he said.

"If you have the infrastructure, the lawyers, the cost of doing those deals is very inexpensive. It's just a filing fee, and you can basically achieve that for less than $1,000."

But the market participant said that issuers themselves may have been disappointed by the size of those deals.

"Whenever issuers launch deals, they always hope that it's going to be a large offering. When demand is small, you still have to print it because you've been marketing the deal. It's probably disappointing to a lot of issuers. Definitely the expectation was for a much [larger] distribution in the first place," he said.

Other top deals

The third largest deal was commodity-based. JPMorgan Chase & Co. priced an additional $27.59 million of 0% return notes due Nov. 27, 2018 linked to the J.P. Morgan Enhanced Beta Select Backwardation Alternative Benchmark Total Return index. The total issue size is now $283.39 million. The additional notes priced at 100.4068.

Credit Suisse AG, London Branch and JPMorgan priced $24 million and $18.18 million, respectively, of two-year notes linked to the performance of the Stoxx Europe 600 Basic Resources index and the euro relative to the dollar.

The final closing level of the index will be its closing level multiplied by the spot rate. The participation rate is 102.25% for the Credit Suisse deal sold by Credit Suisse Securities and 101.9% for the second offering, in which J.P. Morgan Securities LLC acted as the agent.

Citigroup was the top agent last week, selling five deals totaling $102 million, or 23.72% of the total. It was followed by JPMorgan and Goldman Sachs.

"Bull steepeners like these are more and more in favor." - Michael Davis, partner at Varick Asset Management and a former structurer

"They're just trying to satisfy the needs of all their clients." - A rates sellsider on the flurry of tiny stock-linked deals

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