JPMorgan’s dual directional buffered notes on S&P, Russell show good terms, advisers say

By Emma Trincal

New York, July 7 – JPMorgan Chase Financial Co. LLC’s 0% capped dual directional buffered equity notes due Aug. 4, 2022 linked to the lesser performing of the S&P 500 index and the Russell 2000 index provide an “appealing” combination of terms, from the dual directional feature established around a buffer, to the short maturity and cap level, according to advisers.

If each index finishes above its initial level, the payout at maturity will be par plus 1.5 times the lesser-performing index’s return, subject to a maximum upside return of at least 20%, according to a 424B2 filing with the Securities and Exchange Commission.

The final maximum return will be set at pricing.

If the least performing index falls by up to 15%, the payout will be par plus the absolute value of the least performing index’s return.

Investors will lose 1% for every 1% that the least performing stock declines beyond 15%.

Buffer plus absolute

“This is interesting because there’s usually a barrier in an absolute return note. You don’t see a lot of absolute return products with buffers,” said Tom Balcom, founder of 1650 Wealth Management.

“I also like the two-year. We always prefer shorter terms.”

“Having a shorter duration helps when you try to rebalance your portfolio and sell some notes prior to maturity. Valuations remain in line with the underlying.”

Cap

Balcom was surprised the terms could be so attractive over a two-year tenor.

“There is a cap. But that’s about 9.5% compounded per year. It’s absolutely not bad,” he said.

Compared to the risk-free rate, the notes are part of an equity allocation, he said.

“When you think that a two-year treasury is currently yielding 0.16%.”

Bulls may not be interested in the notes because of the cap.

“But if you want the protection and some participation in the downside, this is really a good investment. It gives you a very decent return and a hedge for your portfolio,” he said.

The cap alone did not explain the attractive terms. Another factor was the use of a worst-of, he said.

Correlation

“It helps having a worst-of instead of just getting the exposure to the S&P alone,” he said.

“But with worst-of you have to worry about low correlations.”

This was not the case between the S&P 500 and the Russell 2000, he said. The correlation between the two is 0.94.

“Here the correlation is high.

“They move in the same direction. It’s just the magnitude of the moves that is different,” he said.

The Russell tends to be a little bit more volatile but could outperform the S&P 500 index in a recovery.

Balcom declined to predict which of the two indexes was likely to be the laggard as the economic outlook remains uncertain.

When the worst is best

With absolute return payouts, worst-of notes offer an advantage, he noted. While the worst-of on the upside remains the worst-performer, it is different when the worst index finishes negative but within the buffer zone.

“If one drops 4% and the other is down 14.99%, your worst index ends up being your winner since you get a 14.99% positive return. In that case, being the worst-of is best.”

This competitive advantage ends once the buffer threshold is crossed. But even if the worst-performing index drops more than 15%, investors see their losses cushioned by the buffer amount.

“Beyond 15%, you’ll still outperform thanks to the buffer,” he said.

Balcom said he wouldn’t use the notes as a fixed-income substitute given the market risk.

But buying the notes instead of investing directly in the S&P 500 and Russell 2000 “makes sense,” he said.

“If a client is concerned about the economy and not sure how to deal with the uncertainty around Covid-19, this is a safer way to get equity exposure, and you can also use it as a hedge.

“Even if the market is up after two years, you still get 20%. A client can’t be too upset about that.

“I like this note.”

Going back in

Donald McCoy, financial adviser at Planners Financial Services, said that some conservative clients seeking protection and expecting moderate returns in the future may benefit from the payout.

“I can definitely see the value of this product in keeping people in the market,” he said.

“We had this huge rally, but we still don’t know if we’ll be able to successfully reopen the economy and we’re unclear about the damage the virus may cause.

“Some people took some money out of the market. They may want to go back in.

“This note is appropriate for those who want to put some money back in the market but with some protection.”

Sideways

The notes would be especially well suited to investors who expect a range-bound market.

“You don’t see the market taking off because you’re capping yourself over a two-year period at 20%.

“But if the market swims in circles for the next couple of years, if it’s not significantly positive or negative, at least it gives you something with the upside leverage and the absolute return on the downside.”

“This seems like a very appealing product in a sideways market,” he said.

The notes are guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes will price on July 31.

The Cusip number is 48132MSX0.

© 2015 Prospect News.
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