Bank of America’s $139.98 million notes tied to S&P 500 drew top bid amid toppish market

By Emma Trincal

New York, Dec. 3 – Bank of America Corp.’s $139.98 million of 0% Accelerated Return Notes due Jan. 29, 2016 tied to the S&P 500 index topped the list of deals last week as investors appreciate the highly leveraged upside in anticipation of muted market gains next year, sources said.

If the index return is positive, the payout at maturity will be par plus 300% of the index return, subject to a maximum payout of par plus 10.23%, according to a 424B2 filing with the Securities and Exchange Commission.

Investors will lose 1% for every 1% decline in the index.

“Advisers are having conversations with their clients about the market’s moving to higher levels, day after day,” a market participant said.

Both the Dow Jones industrial average and the S&P 500 index closed at a new high on Wednesday.

“With these milestones, people are starting to wonder how much more growth can we expect to see in the near future,” he said.

Last month, analysts at Goldman Sachs issued a report predicting a 3% increase in the S&P 500 index in 2015.

“With the market continuing to score new highs, the desire to leverage small gains makes perfect sense,” he added.

“Five percent might be reasonable. If you can leverage 5% three times, you can do pretty well.”

Avoiding cash

An industry source said the deal was a good incentive for investors afraid to get market exposure at this point in the market cycle. Yet, when investing in the notes, they still had to take some risk given the absence of any buffer or barrier.

“If you really think the market will go down, you just don’t get into the market,” this source said.

“If you think it will go up but moderately, this is a great product for you because you get the leverage exposure but you’re still maintaining the one-time downside. You’re in between the risk of being long the market and doing nothing. It’s a great alternative to sitting on the sidelines.”

Andrew Valentine Pool, main trader at Regatta Research & Money Management, said that he invests in leveraged notes, partly because of the advantage of not getting the leveraged exposure on the downside. The success of deals using a high participation rate of 300% did not surprise him.

“I am not surprised a deal like this would be so popular. If your market expectation is muted for next year, you need the leverage,” he said.

“Most advisers seem to expect a flat market looking forward. I sort of agree. I’m not overly bullish for the year to come because of the recent highs we’ve had.”

The S&P 500 index continued to break new records, hitting a 2,074.18 all-time high on Wednesday’s close.

Flat or down

“The likelihood of a market pullback from those levels would be my only concern with these notes,” he added.

“The leveraged is great. But it’s still not protected.”

Investors expecting flat returns next year given the strong rally seen in 2014 should perhaps take into account the risk of a correction, he noted.

“I’m not sure why people with a mildly bullish outlook would not want to take care of the downside risk as well,” he said.

“Maybe it’s because their portfolio doesn’t have anything with such a short-term duration, so it’s attractive in that way too. Or perhaps the other holdings are already protected. Then even though this one is not, it may still fit into the risk-reward of the overall portfolio as long as a large percentage of the assets is already hedged.”

For Pool, the note would have to offer some kind of downside protection in order to be considered.

“A possible alternative would be to get less leverage with a buffer. But I would still have to look at our holdings to see if it would be a good fit,” he said.

The notes (Cusip: 06053M666) priced on Nov. 25.

Merrill Lynch & Co. is the underwriter.

The fee is 2%.

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