Citigroup's trigger jump securities linked to S&P 500 offer good risk return but longer tenor

By Emma Trincal

New York, April 4 - Citigroup Inc.'s 0% enhanced trigger jump securities due April 27, 2018 linked to the S&P 500 index may attract mildly and aggressively bullish investors alike while offering a hedge if the market sells off, sources said.

If the final index level is greater than or equal to the trigger level, the payout at maturity will be par of $10 plus the greater of the fixed return amount and the index return, according to a 424B2 filing with the Securities and Exchange Commission.

The trigger level will be 65% of the initial index level. The fixed return amount is expected to be 15% to 18% and will be set at pricing.

If the final index level is less than the trigger level, investors will be fully exposed to the index's decline from the initial level.

Good for bulls

Matt Medeiros, president and chief executive of the Institute for Wealth Management, who is bullish on the benchmark for the five-year timeframe, said that he liked the fact that the structure did not limit the gains.

"We have an optimistic outlook on the S&P for the next five years. The benchmark is market-weighted, and the fact that financials is a heavily weighted sector in the index and has been for a couple of years is a good thing because we do think financials over the next five years will perform well. You can't have a recovery without financial institutions participating," he said.

"So it's nice to have an unlimited upside. If the index return is higher than the 15% minimum, you get the full upside without a cap. No doubt, this is very appealing. I've always believed that whenever you take equity risk, you should get rewarded with the full equity participation."

Medeiros added that the 35% contingent downside protection was reasonable for the term.

"There have been very few five-year periods when the S&P has finished in negative territory. And the few times it happened, the index decline was in single digits. So I think this is a very attractive barrier," he said.

Trade-off

The barrier, Medeiros said, is low enough to protect against a market downturn while giving mildly bearish investors a chance to outperform.

"If the index doesn't do much on the upside or if it's down by less than 35%, at least you get the digital return," he said.

"It's a great way to get positive participation even if the index ends up negative."

In order to benefit from the downside protection and the enhanced return, investors need to agree to hold the notes for a longer period of time than usual with the five-year term, he said. The longer tenor has implications on the returns.

"You're not getting the dividends. But you're not really losing the dividends either," he said.

"It's with the dividends that you can enjoy some of the benefits of the product: the minimum return, the downside protection and the full access to the equity appreciation. The dividends are reinvested in the structure, and that should compensate you. There's got to be a trade-off.

"If you were to buy puts, you would be spending more on your puts than your dividends.

"They could have put together a shorter-term product with no downside protection or less downside protection. Personally, I prefer the five-year with this type of barrier."

Mild bull, mild bear

Steve Doucette, financial adviser at Proctor Financial, said the notes were suitable for investors with a moderately bullish or mildly bearish outlook on the market.

"It's a decent protection with some additional return if the index doesn't go anywhere," he said.

"What's more problematic is the five-year out. It's just a long time to do it.

"If you're up a little bit or down above the barrier, you can outperform the index.

"The digital is not much: it's about 3% per year, but if the S&P 500 is up by less than 15% or down in the range where you're still protected, you're going to outperform the benchmark.

"Really, the outperformance is if the index is down by less than 35%, because at that point, you're collecting a 3% positive on a negative market. It's not bad.

"For instance, if the S&P is down 34%, you're collecting 15% over the term. You could outperform the index by 50%.

"I guess this would work for somebody who wants to get market exposure and who thinks the market may be up a little bit or down but not down too much. If you have a sell-off, it gives you a decent hedge."

Doucette said that the five-year tenor was one of the drawbacks. One consequence of the longer term is that investors end up missing out on dividends for five years. At a 2% dividend yield, the S&P 500 would have generated a 10% return in dividends approximately over the term of the notes, he noted.

"So much of your returns come from the dividends these days. You're not getting it, and that's an opportunity cost," he said.

"Now to put things in perspective, we're talking 2% year. If you get your digital return of 3% per year, I guess that really covers it.

"But if the market does better, you would be missing out the dividend return because all you're getting is the price appreciation of the index.

"It's not bad at all if you think that the market is going to go down or up minimally.

"I would just object to the five-year term, although I can see that you wouldn't get that type of downside protection on a one- or two-year note."

Citigroup Global Markets Inc. is the underwriter.

The notes are expected to price April 30 and settle May 3.

The Cusip number is 173095696.

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