Merrill offers BRIC-bullish notes; structure offers attract alternative to direct investment, advisor says

By Kenneth Lim

Boston, Oct. 6 - A dollar-bearish product by Merrill Lynch & Co. is an attractive alternative to a direct investment for investors who are moderately bullish about BRIC currencies, an investment advisor said.

Merrill Lynch plans to price zero-coupon principal-protected step-up notes due November 2010 linked to a basket of the four BRIC currencies.

The basket comprises equal weights of the Brazilian real, the Russian ruble, the Indian rupee and the Chinese yuan, all against the U.S. dollar.

At maturity, if the basket is unchanged or has appreciated against the U.S. dollar by up to a threshold percentage of 20% to 30%, investors will receive par plus the threshold percentage. The threshold percentage will be set at pricing.

If the basket has appreciated by more than the threshold percentage, investors will receive par plus the basket return. If the basket has depreciated relative to the dollar, investors will receive par. The notes will be sold at par of $10.

Attractive access

The notes provide a convenient alternative to a direct investment in the emerging currencies, the advisor said.

"There are risks and liquidity issues involved in investing directly in currencies from emerging markets, so structured products like these give investors an option of gaining exposure without taking on some of those risks," the advisor said.

Compared to a direct investment, the Merrill Lynch product also offers the potential for better returns, the advisor said.

"First of all, it's principal protected, so if Merrill Lynch is still standing two years from now, you can expect at least your principal, which is obviously better than a direct investment," the advisor said.

"The second point is you have the potential to outperform a direct investment as long as the basket stays within the threshold, and beyond that you basically track the basket. Except in a case where the issuer defaults, you won't underperform the basket."

The product, however, is best suited for investors who are only moderately bullish on the basket.

"If you are very optimistic about the underlying basket, this product might not give you the return that you want," the advisor said. "You also have to consider the correlations between the component currencies, because that would affect whether you think the basket will appreciate and by how much."

Investors remain wary

The markets remain in a state of uncertainty, and investors are likely to seek lower-risk products and structured like principal protection for the time being, the advisor said.

"You only have to look at the chart for the S&P 500 over the past couple of weeks to see how wild the markets are," the advisor said.

"The market falls when there's no rescue plan, it falls when there's a rescue plan. Investors are desperate for good news, but they'll flee at the first sign of bad news...Given how much volatility there is, I think principal protection will be very important to investors at this time, and it will probably remain very important for some time."

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