Advisers compare Morgan Stanley, Barclays notes on indexes with little conviction

By Emma Trincal

New York, June 22 – With equity markets close to all-time highs only four months after a crash, advisers are having a hard time finding notes that express a clear thesis simply because the direction of the market itself is far from clear.

Carl Kunhardt, wealth adviser at Quest Capital Management, said he hasn’t been able to find any “interesting” notes lately.

“I was looking for deals trying to eliminate the worst-of and the autocalls, but that’s all you have right now. And I’m not a fan of either one of them,” he said.

He ended up finding two products, which fit his negative filter: none was callable or tied to the worst of several assets. While he liked the “plain-vanilla” structure of those notes, he could not find any of them “terribly exciting.”

Two deals

The first one – Morgan Stanley Finance LLC’s 0% enhanced trigger jump securities due July 7, 2021 linked to the S&P 500 index – has a bearish tilt, he said.

At maturity, the payout is 6.3% if the final index level is greater than or equal to the 65% downside threshold level. Otherwise, investors will lose 1% for every 1% that the index declines from its initial level.

The final index level is the average of the last five closing prices.

The other deal was unleveraged and capped. But it offered a 15% hard buffer on the downside.

Barclays Bank plc priced $6.63 million of 0% buffered SuperTrack notes due Dec. 16, 2021 linked to the Dow Jones industrial average.

The payout at maturity will be par plus any index gain up to a 20% maximum gain.

Digital with bearish bias

“I’m not sure which way to go in this market. Both notes are kind of plain vanilla. I guess I like the fact that one has a buffer. But I can really be taking a strong position either way,” he said.

“On the Morgan Stanley one, you have to have a mildly bearish outlook. Obviously, the more the index falls, the more you outperform, and that’s up to a 35% decline.”

The 6.3% return, which caps the upside, was not a drawback.

“I can’t even say that 6.3% for a year is low,” he noted.

He noted that many worst-of on indexes generate coupons of about 8% with quarterly autocalls and similar barrier levels, which make investors very likely to cap their gains at 2% even if it’s achieved in three months.

“At least this one is not an autocall. And for us, 6.3% a year is not a bad return,” he said.

Kunhardt said his firm relies on Mercer’s long-term projections for its outlook on U.S. equity returns.

“They predict 6.75% to 6.80% a year, so you’re not that far off.”

“But you’ve got a barrier. If it’s down 36%, you’re 100% exposed.”

He noted the deals were of the type where one asks, “OK, what else is out there?”

No thrills

Kunhardt did not show more enthusiasm for the Barclays note.

“I don’t see a lot of value proposition here. Yes, you have the buffer. But you’re lining up money on a thesis you really have no conviction on.

“I don’t dislike either one. But there’s nothing to be excited about.”

Kunhardt, who has experience buying structured notes, said he has been feeling that way about new issues for a while.

“There’s not much there to get excited about. The market got very volatile. Everybody at the time jumped into CDs. But they virtually pay nothing.

Too many worst-of

“All you see are worst-of. I don’t do worst-of. It’s betting against yourself.

“There are tons of autocalls. Actually, worst-of autocalls are everywhere. The more I see those products the more I wonder: what is this obsession all about?”

For Kunhardt, structurers are not necessarily to blame although he wished banks would be a little bit more “creative.”

“The industry is reflecting what the market is. And the market is irrational. There is a huge discrepancy between the market and the economy. Does it make sense that the Nasdaq is 45% off the lows of March?” he said.

Gamblers ruling

He attributed the rally to a new breed of day traders piling into the market with no knowledge of trading, let alone investing. A new category of market participants is now using platforms such as Robinhood to gamble on stocks, putting the market at risk of overheating.

Robinhood is an application that allows investors to trade fractional shares of stocks with zero-commissions, lowering the barriers of entry to traders.

“Those kids in lockdown are bored. They can’t socialize. They can’t bet on sports. They can’t go to the casino. They jump into day trading like gamblers. It makes absolutely no sense to see stocks rising like that. As a fiduciary, I know it’s not going to end well,” he said.

The excessive speculation in the market makes it difficult to hold a view even short term, he said.

“Up until now structured notes were an instrument allowing you to express a rational thesis on the market.

“But there is no rationality in the market.

“The banks are creating products because they have to. But those products are utterly boring,” he said.

Risk-reduction premise

Jonathan Tiemann, president of Tiemann Investment Advisors, LLC, was able to express a slight preference for one of the two products.

“If you told me I’d have to take one or the other, this Barclays is basically a way to invest in the Dow with a little bit less risk. Less upside but less downside risk,” said Tiemann.

“You can always go long the index and just not put all your money.

“But if you’re a cautious investor, I can see why you would do that.”

Tail risk

He was not as “sold” on the other note.

“The Morgan Stanley, you try to capture a much better yield. You’re just hoping that the next market crash won’t happen at maturity,” he said, referring to the fact that the protection was delivered via a barrier, not a buffer.

“The Barclays deal looks more like investing in the stock market.

“The Morgan Stanley, you’re taking all the possible outcomes from minus 35% to going to the moon and you’re compressing that into one possible outcome, a 6.3% return.

“You’re protected against a lot of possible negative outcomes but not all.

“You’re giving up an awful lot of upside while being exposed to the very worst downside,” he said. And that is a loss of at least 35% of one’s principal up to possibly 100%.

He said the investment theme of the other note was more straightforward.

“I can easily find a reason why an investor would buy the Barclays note. They want to be in the market, but they’re still cautious. So, they forego the upside beyond 20% to get the buffer. That is a reasonable tradeoff,” he said.

“But to give away all the upside and have all the tail risk, that to me seems more like speculating than investing,” he said.

Morgan Stanley & Co. LLC is the agent of the Morgan Stanley Finance issue.

The notes will settle on Wednesday.

The Cusip number is 61771BPS7.

Barclays is the agent for the Barclays Bank plc offering.

The notes settled on June 17.

The Cusip number is 06747PVK2.

The fee is 0.15%.

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