Volume down for week, month early in calendar cycle, but rally supports year-to-date volume

By Emma Trincal

New York, March 13 - Volume declined by 76% to $269 million for the week ended Friday, according to data compiled by Prospect News, but it was the first week of the month and a big industry event was held on Wednesday in New York, which help explain the drop, sources said.

Month-to-date volume was also down. Issuance fell by 13.6% to $517 million for March 1 through March 9 from $599 million for the same period of February.

However, the year remains positive with $7.29 billion sold so far in 1,469 deals, compared with $6.79 billion in 1,566 offerings last year, a 7.37% increase in volume.

Volume

"You have to take into account the calendar," said Guy Gregoire, former syndicate manager at Pershing.

"The previous week [week of Feb. 24] was probably not the last week of the month, but it was still a big week. While most of the deals priced on Friday [Feb. 22], but they probably kept things open for that Monday [Feb. 25]. So the small size of last week isn't surprising really," he said.

On Wednesday, the Structured Products Association held its annual structured products distribution conference in New York.

"Not having people at their desk certainly could impact the ability to do one-off but wouldn't have too much impact on the calendar business, although it may have had some," he said.

"It was a one-day business, and they chose a good time in the monthly calendar. You certainly wouldn't want to do that at the end of the month."

The month-to-date figures are too early in the month to be significant, and last week was not representative of the most active part of the calendar, sources pointed out. Meanwhile, volume remained up for the year.

However, the pace of issuance looking forward is hard to predict as the stock rally has produced mixed results, they said.

Bull impact

"The bull market is at the same time a good thing and a bad thing for structured products. You could make the argument for either side," Gregoire said.

The Dow Jones industrial average hit its record level of October 2007 last week. Both the S&P 500 and the Dow finished the week up 2.2%. At the same time, the CBOE Volatility index, or VIX index, which measures implied volatility on S&P options, dropped 18% just for the week.

"Volatility has been subdued for some time. We've seen it surge for short periods of time when the intraday was down. For the moment, the market wants to go up. People enter the market because they missed it," a structurer said.

The strong stock performance has led to solid inflows into stock funds so far this year. The trend has reverberated in the structured notes market with equity notes climbing by 15.81% this year to $5.73 billion from $4.95 billion, according to the data.

"It's also the lack of alternatives," the structurer noted.

"First, you don't get anything on bonds. Even emerging market currencies and high-yield bonds don't offer such high yields. How low do you want to be in the credit spectrum to pick up yield? Real estate is very illiquid, and commodities may not be the best investment either. So what do you do? You invest in equities," he said.

Leverage

The most favored structure last week was leverage with full downside exposure. With $90 million issued in 10 deals, these products made for more than a third of the week's total, according to the data.

"It's a way for investors to jump into the equity bandwagon," the structurer said.

"It's an aggressive way of doing it, but it's one way.

"Those leveraged notes also allow you to reinvest in the call option, to transfer the dividends into performance notes. It's one way to reflect one's view and to optimize your tax returns."

Leveraged notes with buffers or barriers represented a smaller market share last week (15.27% versus 20.35%) but remained popular.

"There is an argument for buffered return notes with some downside protection, leverage to a cap for someone who remains optimistic but wants to be cautious as the market either hits or approaches new highs as opposed to buying the equities themselves," Gregoire said.

"But the rally represents a very challenging environment for issuers in structurers with the VIX trading at five-year lows."

The bull market may also change pricing conditions if rates go up, Gregoire added.

"The same dilemma applies to the economy. There are signs of an economic recovery leading to higher rates either with the Fed acting or the market leading the Fed," he said.

"We're starting to see rates creeping up, which is a perfect world for the structured products market. At the same time, you would hope that higher rates wouldn't hurt the equity markets too much but instead would help the issuers with regard to being able to price more competitive deals.

"There is a risk obviously as a lot of the positive moves in equity are the result of the Fed's action. Now they're going to have to strike a delicate balance of raising rates without hurting equity markets."

This double-edged sword is what makes predictions in terms of structured notes volume difficult as the market approaches the end of the first quarter, he continued.

"You can see the rally in two ways. The good news is we're at new highs in equity prices. But it might also be the bad news.

"It's too soon to tell what volume will look like. For now, we haven't seen too much higher rates to see pricing becoming advantageous," he said.

Top offerings

Last week's top deal was a leveraged note with no cap and no downside protection. Credit Suisse AG, Nassau Branch priced $52.67 million of enhanced participation equity securities due July 1, 2015 linked to the Euro Stoxx 50 index. The payout at maturity was par plus 213% of any index gain. Credit Suisse Securities (USA) LLC was the agent.

The second offering, much smaller in size, was an autocallable linked to a single stock. Autocallable products have grown 44% this month to $33 million and represent 6.5% of the total versus 3.85% last month.

HSBC USA Inc.'s $16.04 million of 0% Strategic Accelerated Redemption Securities due March 21, 2014 linked to Ford Motor Co. stock were sold by BofA Merrill Lynch. The notes were autocallable quarterly at or above the initial price with a 17.75% annualized call premium. Investors were offered a 5% buffer.

Another popular structure last week, associated with two among the largest deals, were delta-one products linked to proprietary indexes. The two products happened to include volatility-based underlying indexes. Four offerings totaling $30 million, or 11% of the total, fit into the "tracker" category.

One of those deals - the week's third-largest issue - was JPMorgan Chase & Co.'s $14.16 million of 0% return notes due June 11, 2014 linked to the J.P. Morgan Strategic Volatility index with a payout at maturity of par plus the index return, which could be positive or negative.

The other one - the fifth-largest issue of the week - was a multi-asset-class product. Deutsche Bank AG, London Branch priced $11.44 million of 0% tracker notes due March 11, 2015 linked to a basket of indexes that included the S&P 500 Total Return index, the Deutsche Bank Equity Mean Reversion Alpha Index Emerging Markets (Emerald EM) and the Deutsche Bank ProVol Hedge index (ProVol Hedge).

"Those notes are tied to proprietary indexes, and it's my guess that they would appeal to the internal distribution channels because they're somewhat more difficult to mass-market based on the novelty and the complexity of the underlying," Gregoire said.

"The bulk of individual issuers' proprietary indexes/black box are usually for internal distribution. If it was sold third party, I would assume it would probably be to a pretty knowledgeable and sophisticated customer base."

Commodities picked up on a month-to-date basis, up 353% to $40 million from $9 million, according to the data, with their market share rising to nearly 8% of the total this month to date from 1.5% in February.

The fourth-largest deal of the week was in this asset class. Deutsche Bank priced $14 million of securities due April 9, 2014 linked to the Dow Jones - UBS Commodity Index Total Return. The notes offered par plus three times the sum of the index return minus the TBill return minus an adjustment factor.

For the year, however, commodities have suffered a major hit. They have fallen 37% to $423 million from $672 million last year, making for only 5.8% of the total versus nearly 10% last year.

Credit Suisse was the top agent last week pricing seven deals totaling $70 million, or 26% of the total. It was followed by JPMorgan and Goldman Sachs.

"You have to take into account the calendar." - Guy Gregoire, former syndicate manager at Pershing

"It's an aggressive way of doing it, but it's one way." - A structurer on the use of leveraged notes with no downside protection to get in on the equity rally

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