JPMorgan’s contingent buffered notes tied to Stoxx, EAFE ETF eyed for deep barrier, simplicity

By Emma Trincal

New York, May 23 – Fee-based advisers are not always in favor of worst-of notes, but when the structure is simple and the underlying theme consistent with a single asset class, things can be different.

A lot of leverage, the absence of a cap and a low barrier cannot hurt either.

An example is JPMorgan Chase Financial Co. LLC’s 0% uncapped contingent buffered return enhanced notes due May 31, 2024 linked to the lesser performing of the iShares MSCI EAFE exchange-traded fund and the Euro Stoxx 50 index.

Investors have exposure to the lesser-performing underlier, according to a 424B2 filing with the Securities and Exchange Commission. The upside is levered at a rate of 3.1 times. The protection on the downside consists of a 50% barrier observed point to point.

Competitive

“For an international equity exposure it’s a great note,” said Steve Doucette, financial adviser at Proctor Financial.

“They’re expanding leverage to three times. No cap. And you get this huge barrier on the downside.”

Both the underlying ETF and the index pay high dividends, which are not passed onto the note holders as they would be onto the shareholders. Over a five-year period, the issuer of the notes is able to tap into the compounded dividends to purchase the options, which is how the notes are so attractively priced, sources said.

The EAFE fund yields 3.10%, and the Euro Stoxx 50 index yields 3.15%.

Other commonly used underlying indexes have much lower dividend yields in comparison. The S&P 500 index for instance yields 1.85% and the MSCI Emerging Markets index, 2.2%.

“Still you wonder how you can get that three times. Obviously using two indices helps,” he said.

One advantage of using the developed market benchmark along with the eurozone index was the relatively high correlation between the two, he noted.

International play

“There’s a big concentration of European stocks in the EAFE, so there is some overlap,” he said.

The asset correlation between the two underliers is 0.94, with 1 being perfect correlation.

“Since you have to allocate to international, take a portion of it and put it in this note five years out. If the market rallies, you get the full upside, and if you’re wrong in the timing, you have this deep barrier, point to point.”

The underlying exposure also made sense.

“As a planner, you have to get exposure to developed markets anyway,” he said.

The ETF diversifies across Europe, Australia and the Far East. The United States and Canada are not included.

“I would have to do my due diligence and look at the EAFE more closely. Australia has done very well for a very long time. My personal opinion of Japan is that they haven’t done much for years. It’s a slow economy,” he said.

“In Europe, all the countries have their problems. But valuations are better.”

Japan is the top country in the fund with a 23.5% weighting. The United Kingdom is the second largest one with a 16.66% weighting. Australia makes for 7.1% of the assets. Stocks of companies located in Europe represent about 60% of the portfolio.

“I still believe in the world economy even though it hasn’t been the best for asset allocators,” he said.

“But the bottom line is, where else are you going to get three times, no cap and a 50% barrier? This note is a good equity substitute even if you’re only getting the worst of the two.”

The trade wildcard

Matt Medeiros, president and chief executive of the Institute for Wealth Management, said the product met the basic criteria for structured notes: risk mitigation and simplicity without limiting the potential return.

“I think it’s an interesting note for the market we’re in,” he said.

“People will be increasingly looking toward those simple, relatively lower-risk products with the current volatility and uncertainty in the market.”

Right now, trade tensions between the United States and China have escalated and provide the main source of volatility in the global markets.

“If the uncertainty continues, surely the U.S. growth expectations will stall and that will have an effect on Europe and overseas markets as well,” he said.

“You do have to mitigate the risk, so I think it’s an interesting note. If the market is not going anywhere, the high leverage will help you outperform.

“If the market rallies, you are not limited by a cap.

“If you were wrong, the note has a good protection in place. It’s not a buffer, but a 50% barrier over five year is pretty attractive.

“It’s a simple note. No moving parts, no complicated features. But this is what people are looking for in this market.”

The notes will be guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes will price May 31.

The Cusip number is 48132CGZ0.

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