Month kicks off with structured products weekly tally of $848 million; digital deals in vogue

By Emma Trincal

New York, Nov. 10 – Typical structured products issuance patterns for the beginning of the month were not on display last week, starting with a high issuance volume, big trades on single indexes via digital notes offerings and leveraged bets.

Agents priced $848 million in 75 deals in the week ended Friday, according to preliminary data compiled by Prospect News. Big trades dominated with seven offerings of more than $50 million.

Larger deals usually come from BofA Securities at the end of the month. Last week, Citigroup and Goldman Sachs were the prominent agents. Another characteristic: digital products overshadowed what’s usually the largest issue type – leveraged notes offerings. Other out-of-the-box development: the most popular underlying index was the Russell 2000 index, not the S&P 500 index.

Digital mania

Citigroup Global Markets Holdings Inc. issued $91.01 million of 0% buffered digital notes due Aug. 7, 2023 linked to the Russell 2000 index. It was the top deal. Citigroup Global Markets Inc. was the agent.

The in-the-money digital payout offers 13.1% for any index return above a 90% strike. There is a 10% geared buffer on the downside.

Because investors may gain even if the index is negative so long as it is above the digital strike, which is below the initial level, the call is “in-the-money.”

Other similar “in-the-money” digital deals priced at the same time, early in the week.

GS Finance Corp., for instance, issued $83.37 million of 0% digital notes on the S&P 500 index with a term three-month longer, making it a two-year note. The structure was identical to Citi’s notes except for the digital return set at 13.5%. Goldman Sachs & Co. LLC is the underwriter.

GS Finance priced another big Russell 2000 index-linked digital offering for $72.13 million, a 15-month this time with a 9.4% digital payout and the identical 90% strike and buffer level.

Finally, Citigroup priced two other digitals, one for $64.08 million on the S&P 500 index and the other for $63.44 million linked to the Euro Stoxx Banks index.

Leveraged blocks

Only 21% of the issuance volume went to autocallable notes last week, the data showed.

Leveraged return notes, known as “Accelerated Return Notes” (ARNs), made for 23% of the total. Those tend to offer triple upside exposure up to a cap with full downside risk.

This 21% market share for ARNs last week was unusually high compared to the year-to-date average of less than 9%.

The top ARNs seen last week were tied to the Euro Stoxx 50 index. One came from Citigroup at a $72.38 million size, the other from GS Finance for $57.74 million.

A sellsider was impressed by the size of those offerings, all of which linked to a single underlying index.

“I think this is great news. It shows that the investment community is embracing leveraged notes as one of the most adequate tools for asset allocation,” he said.

He noted that digital notes are usually not that large. He attributed their success last week to the fact that advisers may have used them for the same asset allocation purposes as they do for ARNs.

“These deals are done on a single asset. They fit right into the appropriate portfolio bucket...Russell 2000 for small-cap, S&P for large-cap and Euro Stoxx for international,” he said.

Another example of asset allocation to international equity came from GS Finance’s $53.74 million of two-year leveraged notes linked to an unequally weighted basket of international indexes, which included the Euro Stoxx 50 index, the Topix index, the FTSE 100 index, the Swiss Market index and the S&P/ASX 200 index.

The notes pay three times the basket gain up to a 30% cap.

Goldman Sachs is the agent.

Toronto-Dominion Bank also priced a big ARN deal with $42.86 million on the Russell 2000 index. The 15-month offering was capped at 19.65%. The agent is TD Securities (USA) LLC, according to the filing.

A cap by any other name

Whether structured as highly levered capped notes or as digital products, last week’s top deals had some common characteristics. A market participant said that the preference given to the in-the-money digitals over leveraged enhancement while unusual was not a total surprise.

“A 3x leveraged note with a cap can be similar to a digital in that you are more likely to hit the cap when you get so much leverage,” he said.

“But I think people still prefer the digital because you earn your return even if the market is not up at all. In the case of in-the-money digitals, the market can even be down to the barrier or to the buffer strike. It begins to look a little bit more attractive than leverage.”

Core strategy

Structured notes should be used primarily for asset allocation, the structurer said.

“When advisers use them as portfolio management tools, they pick a variety of indices, I mean one index per bucket. It’s a much more straightforward approach than the income-oriented tactical bets you see for yield enhancement, which can be gimmicky at times,” he said.

“Notes used for asset allocation led to some of the biggest deals because advisers use them as an alternative to an ETF.”

BofA Securities is the champion of this line of business, he said, adding that seeing other agents do similar products with comparable sizes was a positive development.

“It’s refreshing to know that other dealers like Goldman, Citi are doing it and in big deals too, not just Merrill. It comes to show that advisers are beginning to recognize the value of leveraged notes as something more efficient than being long the market.”

Russell boost

Structured notes investors heavily bid on the Russell 2000 index last week – $224 million in six deals, which was more than a quarter of the entire issuance volume for the week. In contrast, the S&P 500 index used as sole underlying came out in eight offering for only $175 million, a rare instance in which the S&P 500 index is not the dominant reference asset.

Deals on the Dow Jones industrial average accounted to $46 million.

The Nasdaq-100 index, unlike the three indexes previously mentioned, was only employed in worst-of deals.

“This appetite for the Russell is again great news in my view,” the sellsider said.

“It definitely demonstrates the use of structured products for the big picture rather than for tactical bets.

“There is only so much S&P you can use. You can’t put your entire portfolio in large-cap. You need to diversify across other asset classes, including small-cap and international,” he said.

The Russell 2000 index spiked last week, in part due to positive news from Pfizer’s new Covid drug, which gave a boost to the recovery trade. The overall stock market rallied after the Federal Reserve confirmed mid-week its widely expected decision to taper its bond purchases, some investors interpreting the move as a sign that the economy is strong enough to sustain the decrease in stimulus. Finally, a strong job report on Friday pushed the indexes up into new record highs. The Russell outperformed all others, jumping 6.1% for the week, versus a 2% rise for the S&P 500 and 1.4% increase for the Dow.

Short volatility

Amid the rallying market, the VIX index trended lower, dropping below 15 on Thursday at 14.73, which is very near its 52-week low of late June at 14.10.

Since issuance volume is mostly driven by short-volatility bets, some of this year’s best months in volume coincided with periods of short-term volatility spikes.

The top months in declining order were June, February, March, January and May, all showing over $8 billion of monthly sales. These periods have also seen some spikes in the VIX.

This may or may not imply that more business comes from down markets. Autocall issuance tends to increase when deals roll but also when the market drops.

For the structurer, waiting for volatility to surge before striking a deal may not be the best approach.

“It’s not necessarily smart to wait,” he said.

“I know that this whole concept of buying at the dip makes people feel good about their decisions.

“But they tend to ignore what the market is telling them. They are stuck with a particular idea, like: I don’t want what’s out there now because two months ago, I could get a 10% buffer with a 21% cap and now my buffer is smaller, my cap is lower. Therefore, I’m going to wait for the stock market to drop.

“They look for better prices, not better entry points. But structured notes are not about trading equities. You trade the volatility. If the buffer or the barrier is better, it’s because there is more chances to breach it. If the coupon is higher, it’s because you need to be compensated for the risk of missing it.

“There is no absolute price. The pricing of a note is just what the current market allows you to price. You can’t judge a buffer or a coupon by looking at it. It’s not like a painting.

“What you really need to know is: is it the right time to buy or sell? Is this buffer or coupon in line with my market view?”

Big Dow

Another non-ordinary and large size deal came from Barclays Bank plc, which priced $34 million of notes linked to the Dow Jones industrial average. The payout was layered in a series of mathematical formulas in between a buffer and a cap. But for the sellsider, the aim was the same: using the notes as an asset allocation tool.

Volume for the year to date is up 28.6% to $76.895 billion through Nov. 5 from $59.816 billion last year.

The deal count is up 8.6% to 20,303 from 18,694.

This year has outpaced the $72.7 billion issuance volume posted through the entirety of last year, which was the best year on record since Prospect News began compiling data in 2004.

The top agent last week was Citigroup with $311 million in 10 deals, or 36.7% of the total.

It was followed by Goldman Sachs and UBS.

Citigroup Global Markets Holdings Inc. was the No. 1 issuer with 13 offerings totaling $347 million, a 41% share.

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