Credit Suisse's leveraged notes linked to MSCI EM favor upside in tight pricing environment

By Emma Trincal

New York, May 2 - Credit Suisse AG, Nassau Branch's 18-month 0% accelerated return notes linked to the iShares MSCI Emerging Markets index fund offer a restricted amount of protection, but the short duration and cap level could offset that drawback, at least for some investors, financial advisers said.

"Volatility is so low, it makes it almost impossible to get it all in one deal," said Steve Doucette, financial adviser at Proctor Financial.

"Terms are getting tighter. For the investor, it's a matter of strategic allocation and picking the terms that fit your view."

The payout at maturity will be par plus at least 150% of any fund gain, up to an underlying cap of at least 21.5%, according to a 424B2 filing with the Securities and Exchange Commission. The exact cap will be set at pricing.

Investors will receive par if the shares fall by up to 10% and will be fully exposed to the losses if the shares finish below the 90% knock-in level.

Tough choices

"A 14% annual cap isn't bad," Doucette said.

"But with that type of underlying, the 90% barrier may not be enough.

"You can't extend the boundaries of this note in either direction and make it shorter, with a higher cap and a big buffer. You have to make choices. Volatility is just too low.

"So you're stuck with a potential for this note to underperform the market if the ETF is greater than the cap or to underperform on the downside if the barrier turns out to be breached."

Credit Suisse has offered similar accelerated return notes in the past few months. Depending on the underlying and the market conditions at the time of pricing, those past deals have had a variety of different possibilities in terms of duration, upside cap, upside participation and downside protection, according to data compiled by Prospect News.

In January for instance, Credit Suisse sold $13.76 million of two-year notes linked to the Russell 2000 index. The structure offered 1.5 times upside leverage up to a 22.8% cap. There was a 10% downside buffer.

In November, Credit Suisse priced $10.64 million of notes due Jan. 31, 2014 linked to the Energy Select Sector index. The 14-month product offered 300% upside participation with a 19.2% cap, but the downside protection was missing.

In March, Credit Suisse issued $3.88 million of similar notes linked to the S&P 500 index. The notes offered an attractive upside with 128% participation and no cap. Investors benefited from a 75% barrier for the downside. Yet, investors had to hold the securities for three-and-a-half years.

"When volatility is high, you get better terms. Now that the rally is bringing the market to new highs and that investors are much more comfortable, it's hard to get good pricing," Doucette said.

"Quite frankly, it's been hard to get exactly what we want with the last few leveraged buffered notes that we've done.

"We either have to go out in duration, which we really don't want to do, or we have to give up the leverage for the cap or the cap for the leverage or play with the buffer. The terms are getting squeezed because of the low volatility.

"It is now a trend, and it will be interesting to see if it continues to be a trend and for how long."

Moderate bulls

Tom Balcom, founder of 1650 Wealth Management, agreed, saying that good terms on products are getting harder to get.

"Unfortunately, we're dealing with low interest rates and low volatility, which is not a very favorable environment for structured notes," Balcom said.

"But for someone who wants exposure to emerging markets, this note provides a hedge with the downside protection.

"If you're not overly bullish and need some protection against the pullback, this makes a lot of sense.

"There's no doubt that a 10% downside protection on an 18-month tied to emerging markets is not a great deal of protection.

"But for someone who is looking for the exposure to the asset class and is not overly worried about the downside, getting ... a bit of protection with the leverage is not a bad thing."

Balcom said that he likes to keep his notes short in duration, between 13 months and two years.

"The 18-month term isn't bad. A 13-month of course would be better. But with rates and volatility as low as they are, a 13-month term would probably reduce the protection to 5%. So it's really a matter of deciding what works for you. This note is for someone who is moderately bullish and wants the exposure but doesn't need a whole lot of protection," he said.

Macro decision

For Doucette, ultimately, asset allocation considerations will drive the final decision.

"If we decided to look at this note, it would really depend on the underlying. That's when you make a strategic call on an asset class," he said.

"The outperforming asset class lately has been U.S. equity.

"A contrarian would want to look at other directions, and emerging markets may be one of them. I would probably be more inclined to look at emerging markets than the S&P right now.

"The 21.5% cap on 18 months is not bad.

"The barrier is there, and the question is: Do you need that barrier?

"If you're slightly bullish and not overly worried about the downside, then you may want to lower the protection and even raise the cap if you can. You might have to take the leverage off.

"Getting a buffer instead of the barrier would be much better too. A 10% buffer or even 5% buffer would help a lot. That way, at least you'd get some outperformance on the downside if the index goes down."

Barclays is the agent.

The notes will price in May.

The Cusip number is 22546T7L9.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.