Citigroup’s dual directional notes tied to S&P 500, Russell 2000 to show rare buffer

By Emma Trincal

New York, May 30 – Citigroup Global Markets Holdings Inc.’s 0% dual directional buffer securities due June 2, 2023 linked to the worst performing of the S&P 500 index and the Russell 2000 index offer a downside buffer, which is rare for this kind of structure as most absolute return or dual directional notes are structured around a barrier, advisers said. As a result, the notes offer some appeal.

If each index finishes at or above the initial level, the payout at maturity will be par plus the return of the worse performing index, according to a 424B2 filing with the Securities and Exchange Commission.

If either index falls by up to 25%, the payout at maturity will be par plus the absolute value of the return of the worst performing index.

If either index falls by more than 25%, investors will be fully exposed to any losses of the worse performing index beyond the buffer.

“It’s very hard to price an absolute return note on a buffer. The terms usually aren’t compelling,” a structurer said.

In this case, the issuer was able to do it essentially by introducing a worst-of component and extending the term to four years.

Buffer advantage

“I really like the fact that it has a buffer,” said Matt Medeiros, president and chief executive of the Institute for Wealth Management.

“I also like that it’s an absolute return and because of that, I’m not too worried about the tenor of the note.”

Demand for protection has increased among investors, he added.

“With the recent volatility and the uncertainty regarding the near future and for the rest of the year, this is the time when clients really focus on structured notes, and particularly on buffered notes,” he said.

Worst-of exposure

The worst-of was the other side of the coin.

“I usually don’t particularly find worst-of very appealing,” he said, pointing to worst-of linked to sector funds as the most undesirable.

“But in this case, you’re talking about two broad U.S. equity indices. It’s an asset class that I like and it’s in any sort of portfolio.

“The notes are buffered. You have some protection on your core asset allocation.”

“It’s a good insulation for a core component to your portfolio.”

Kind of a best-of

Steve Doucette, financial adviser at Proctor Financial, said the structure was interesting but the exposure too unbalanced with the downside benefiting the most.

To be sure the downside payout was attractive.

“There’s an interesting twist with the absolute return worst-of,” he said.

“I guess you can say it’s almost a best-of.”

The greater the price drop up to 25%, the greater the positive return on the downside, given the absolute return, he explained. This made the exposure to the worst-performing index more rewarding as long as the price stayed within the buffer range.

“You’re obviously a bear if you buy this. On the downside, you want as much decline as possible by less than 25%. But there’s nothing that would give you any excess return on the upside.

“There’s no leverage and no cap. But you’re going to be capped on the worst-of.”

Skewed

Some of the features of the notes were unusually attractive, however.

“The best-of absolute return is kind of a neat component. With a 25% buffer you also have a nice protection,” he said.

“Even if the worst-of drops more than 25%, you’re still ahead. You will outperform on the downside.”

But the positive terms on the downside are not matched if the market finishes positive.

“It’s skewed toward the downside. I guess you expect the market to be down and you hope to capitalize on it.

“You’ll outperform on the downside with this strong buffer and the absolute return.

“It’s clearly more of a bearish call.

“I wouldn’t use it because I would want to be able to outperform on the upside too.

“Four years from now, the market could have gone through a bear and gone back up.

“Nobody can make that call.

“You need to be able to beat the market either way whether it’s up or down,” he said.

The notes will be guaranteed by Citigroup Inc.

Citigroup Global Markets Inc. is the underwriter.

The notes (Cusip: 17326Y5Y8) are expected to settle on Tuesday.

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