Volume on the rise, up 9% this year compared to last as risk-taking, income-seeking prevail

By Emma Trincal

New York, Jan. 30 - The market has reached record highs, boosting optimism among equity investors, and structured products have followed suit. January volumes are higher than last year by nearly 10%, according to data compiled by Prospect News.

Agents in the week ended Friday sold $991 million of structured notes in 101 offerings, a 39% increase from the week before, the data showed.

Last week was the 13th best week on record since Jan. 1, 2012. The top week - that of March 20 of last year - saw $2.2 billion of volume.

"Firms are pretty much done for the month. It all happened last week," a sellsider said.

So far so good

Growth was also significant compared to January of last year as of the 26th. Agents so far this month have sold $2.76 billion, a 9% increase from January of last year, which recorded $2.54 billion in sales. The number of deals - 403 this year - has decreased from the same period of January 2012, which saw 522 offerings brought to market.

At the same time, products priced so far have been larger in size. Firms have sold 40 deals in excess of $20 million against 26 last year.

The December slowdown is now over, at least for now, sources said.

During the period of Jan. 1 through Jan. 26, volume has increased by 61.5% from the same period in December, which recorded $1.71 billion in sales.

"It's been a good month," the sellsider said.

"When we started last year, we were still in a distressed market. January usually starts out pretty strong. But when you look at the credit spreads of a year ago, we were still in a fairly challenging environment. Credit spreads were elevated. Perception of risk around structured products was high. We were looking at 250-300 basis points credit spreads while now, we're looking more at a 50 basis points ballpark," he said.

For this sellsider, reduced anxiety around credit risk is a major factor behind the recent volume pick-up.

"The investor who was sitting on the sidelines because credit spreads were too high, that investor is now a buy."

However, he remained cautious.

"The 9% growth year-over-year is not significant enough to make any sweeping statement. It could just be a deal.

"But so far, things look pretty good. Nothing really negative is coming out. The SEC has given guidance on disclosure. That issue is kind of coming to a closure, and that's a good thing for this market," he said.

Rally euphoria

For Andrew Valentine Pool, main trader at Regatta Research & Money Management, the robust issuance was directly related to the rally.

"Investor sentiment has greatly improved and people are more comfortable with the market. They're more aggressive," he said.

"I definitely see more deals. Usually, it's five or six a month. Now it's more like eight or nine. People buy more when they feel good about the market."

This month so far has had the biggest January equity rally since 1987, according to Bloomberg.

"December and even the last two weeks of November were pretty good in terms of the stock market. But new issues come out at the beginning of January and you see advisers who were on the sidelines and who missed on the upside last month definitely in the mood to buy now," he said.

The market saw more large deals last week than average, including five in excess of $50 million versus three the week before. There were 17 deals of $20 million or more versus seven the week before.

Leverage

According to the data, two structural themes prevailed: capped notes with three-times upside leverage and no downside protection on the one hand and equity-linked notes designed for income on the other hand.

Bank of America sold the top seven deals as well as 10 out of the top 11 ones.

Bank of America sold $724 million, or 73% of the total, in only 24 offerings, following its usual cycle of pricing at the end of each month. It gained a lot of the market shares with its simple three-times leveraged with no downside protection deals as well as its step-up notes, one of its signature products.

Bank of America's top deal and the No. 1 for the week was Credit Suisse AG, Nassau Branch's $84.58 million of 0% Accelerated Return Notes due March 28, 2014 linked to the S&P 500 index. The payout at maturity was par plus 300% of any index gain, capped at 11.52%. Investors were exposed to any losses.

Another big S&P 500-based leveraged product with no barrier or buffer, issued by Bank of America Corp. and the third largest offering last week, was a two-year $66 million deal featuring a three-times leverage factor with an 18.08% cap.

Similarly, Bank of America sold $50.72 million of 0% Accelerated Return Notes due March 28, 2014 linked to the Russell 2000 index with a 300% upside participation, a cap of 15.66% and full downside exposure. It was the fifth largest offering last week.

Step Income blockbusters

Also popular were the Step Income deals, all brought to market by Bank of America. The second, fourth and sixth top deals fell into that category.

Coming in with two- or three-year durations, those notes are usually automatically called with a call premium when the underlying index closes at or above its initial price on a quarterly determination date. At maturity, if the index closes above a step-up value, investors get uncapped participation in the upside. When the final level is above the initial level but less than the step-up value, the product becomes a digital note and the payout is the step-up payment. Below the initial price, investors usually have little or no protection.

The second largest deal of last week, Bank of America's $69.13 million of 0% autocallable market-linked step-up notes due Jan. 25, 2016 linked to the S&P 500, was structured around this formula. The step-up value was 120% of the initial level with a call premium of 17% per annum. There was a 5% buffer.

"I don't see these deals. I'm going to call my desk and find out who is doing it," said Pool, who said that the digital payout would be attractive for income investors while also appealing to growth investors given the uncapped upside above the step-up.

"I can see where it would be advantageous to have that type of product. This one is kind of nice especially if you get that 5% buffer.

"I wouldn't buy one right now, but I may later on a tactical basis. If for instance the market pulls back 10% in the beginning of next month and if we like the chart, we may be considering one of those by the end of February."

While investors get little or no downside protection, Pool said that at least the upside was attractive.

"The combination of the uncapped participation and the digital payout means that you're not going to get extra benefits on the downside. It makes sense," he said.

More income

Other popular income products were autocallable contingent autocallable deals, the data showed.

An example was Royal Bank of Canada's $35. 21 million of contingent income autocallable securities due Jan. 27, 2014 linked to Las Vegas Sands Corp. stock.

If Las Vegas Sands stock closed at or above the downside threshold level of 70% of the initial price on a quarterly determination date, the notes would pay a contingent payment of 3% for that quarter.

If Las Vegas Sands stock closed at or above its initial price on any of the quarterly determination dates, the notes would be redeemed at par plus the contingent payment.

If the Las Vegas Sands stock finished at or above the downside threshold level, the payout at maturity would be par plus the contingent quarterly payment. Otherwise, investors would be fully exposed to the decline.

The dealer on this product was Morgan Stanley Smith Barney LLC.

Pool said that those products were designed to provide some income although not in the form of a regular coupon.

"If you have a low barrier, it makes sense. You don't have a fixed coupon, but you're getting more downside protection in exchange for the more risky contingent payment," he said.

Pool said that he is not surprised to see more and more income-based products.

"Demand for income is still very strong," he said.

"Investors do like at least some form of income, not just all growth. You have the baby boomers that strongly rely on income as well.

"It's amazing the number of retirees that are all about income investing compared to two or three years ago. Many love structured products precisely because they love income investing. Income is always going to have some place in the structured product arena," he said.

In order to get the yield they cannot get in Treasuries or fixed income, investors have began to move some of their assets into equity and structured notes, sources said.

Equity-linked notes grew 54% last week from the prior week and represented 93.5% of the issuance volume, according to the data, which is higher than average. Single stocks amounted to only 15.5% of the total while equity indexes dominated the volume at $775 million, or 78% of the total.

"The investor who was sitting on the sidelines because credit spreads were too high, that investor is now a buy." - A sellsider

"Demand for income is still very strong." - Andrew Valentine Pool, main trader at Regatta Research & Money Management

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