Citigroup’s enhanced buffered digital notes tied to Russell 2000 target conservative investors

By Emma Trincal

New York, Sept. 9 – Citigroup Global Markets Holdings Inc.’s 0% enhanced buffered digital securities due Oct. 2, 2019 linked to the Russell 2000 index are geared toward relatively bearish investors, said Tim Vile, structured products analyst at Future Value Consultants.

That’s because they may outperform the most in a down market.

If the final index level is at least 85% of the initial level, the payout at maturity will be par plus the digital return of 14% to 17%, according to a 424B2 filing with the Securities and Exchange Commission. Otherwise, investors will have 1-to-1 exposure to losses beyond 15%.

The notes are guaranteed by Citigroup Inc.

Defensive

As the trigger level for the digital payout is below the initial price, investors get a lower return than traditional digital notes with a trigger set at the initial price level, all things being equal, Vile said. The advantage of a lower strike however is to enable investors to take advantage of a declining market, he explained.

“Because there is a 15% buffer, you will outperform on the downside no matter what,” he said.

When the issuer uses a lower strike for the digital option, it has to spend more to buy the calls, which could possibly be one reason among other factors explaining why less money is available to buy the coupon.

Bearish

“This note is for investors who worry about a market correction and want to be positioned to profit from falling stock prices. It’s probably aimed at conservative, even slightly bearish investors,” he said.

The 14% digital payout provides investors with only 4.5% in annualized compounded return, he noted.

“It’s not for bulls, for sure. It’s a fixed payment and 4.5% a year is not that high...beyond that, you don’t get any appreciation,” he said.

A bullish investor, if choosing a digital structure, would opt for one that offers a higher return with a trigger likely to be set at the initial price, he added.

Risk

Future Value Consultants evaluates risk, return and price using proprietary scores in order to compare a product with others, including its peers and all products.

The risk is calculated by adding two components – market risk and credit risk. The sum of the two generates the “riskmap,” which measures on a scale of zero to 10 the risk associated with a product, with 10 being the highest level of risk possible.

The notes have a 1.94 market riskmap versus an average of 1.78 for the same product type, according to Future Value Consultants’ research report.

“Your capital is still at risk if the index drops more than 15%. The downside protection is offered via a buffer, which is good. But this note is tied to the Russell 2000, a more volatile index than the S&P 500, making it more likely for the index to drop below that level. This may contribute to the slightly higher market riskmap,” he said.

The three-year implied volatility for the Russell 2000 index is 19% versus approximately 16% for the S&P 500 index.

Credit

The credit riskmap is 0.70, somewhat higher than the 0.61 average for digital notes.

“Citi’s credit is not bad. But the longer tenor adds more risk from a credit standpoint,” he said.

Citigroup’s credit default swap spreads are at 75 basis points, which is tighter than Goldman Sachs’ 90 bps and Morgan Stanley’s 88 bps, according to Markit.

The riskmap is 2.64, which is more than the average of 2.39 for similar products and also higher than 2.33 for all products.

Value

For each product, Future Value computes a price score that measures the value to the investor on a scale of zero to 10.

This rating estimates the fees taken per annum. The higher the score, the lower the fees and the greater the value offered to the investor.

The price score is 7.58 compared with the 7.97 average for the same product type, according to the report.

“It’s lower than average even though the issuer spent money on the buffer. But the score suggests that more money could have been spent on the call options to increase the return,” he said.

Return

The return score measures the risk-adjusted return of a note on a scale of zero to 10.

The return score is 6.96, the same as the average for similar products; but, it is lower than the average score for all products, which is 7.13.

“The risk is higher, which dampens the return score a little bit,” he said.

Overall

The overall score measures Future Value Consultants’ general opinion on the quality of a deal. The score is the average of the price score and the return score.

The notes have an overall score of 7.27 versus 7.46 for the average digital product and 7.68 for all product types.

“This note is pretty average. It’s designed for conservative or mildly bearish investors,” he said.

“Your tradeoff is to accept a lower return for the chance of making money on the downside. If you’re slightly bearish, the note is a good option for you. But as it is, you get somewhat penalized on the upside, even in a modest growth scenario because your return is quite limited.”

Citigroup Global Markets Inc. is the agent.

The notes will price on Sept. 27.

The Cusip number is 17324CAL0.

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