Morgan Stanley’s uncapped buffered notes offer choice between U.S. indexes and Stoxx 50

By Emma Trincal

New York, Nov. 13 – Morgan Stanley will price three different offerings of uncapped buffered notes linked to a major equity benchmark, all due Nov. 30, 2023.

Advisors will have the choice between a U.S. and European equity allocation. The structures are very similar.

Three offerings

The first deal is based on the S&P 500 index. The payout at maturity will be par plus any index gain.

Investors will receive par if the index falls by up to 26% and will be exposed to any losses beyond the buffer, according to 424B2 filed with the Securities and Exchange Commission.

The second deal is linked to the Dow Jones industrial average. Unlike the previous deal, this one offers upside leverage in a range from 123.5% to 133.5%, but the buffer is smaller at 15%, according to a second filing.

The notes linked to the Euro Stoxx 50 index offer the best terms overall as the dividend yield of the eurozone benchmark is higher than that of both U.S. indexes. Other favorable pricing conditions apply too, such as a differential in interest rates between the U.S. and European countries. The payout at maturity is par plus 252% to 262% of any index gain, according to a third filing. The buffer is set at 25%.

Buysiders said they preferred the notes linked to the Euro Stoxx 50 index. But they each had their own rationale for making that choice and for selecting their second-best offering.

Leverage first

“For me the key factor is leverage,” said Tom Balcom, founder of 1650 Wealth Management.

“Over five years, the market could be down and recover and be flat at the end, and you missed on the downside and the upside.

“Of the three, the Euro Stoxx deal is the one I personally would use. It has twice more leverage than the Dow. The S&P has none.”

The leverage factor for these notes was more important to him than the amount of buffer protection given the five-year maturity.

“The market could be going nowhere after five years if we have a recession or a bear market at some point,” he said.

Buffer for some

This would make him eliminate the S&P 500 deal with a one-to-one upside except for a particular type of clients.

“If the client wants to be exposed to the U.S. market, the S&P one with a 26% buffer is great. It’s particularly interesting for cautious investors. Five years from now, the market is down 26%, you won’t lose a nickel.

“With the volatility we’re having right now, there will always be clients near retirement who will need to play it very safe.”

Perhaps the notes linked to the Dow Jones had the disadvantage of not offering as much leverage as the Euro Stoxx deal while their 15% buffer was much smaller than the 26% protection offered by the notes on the S&P index, he said.

Value

“Ultimately it depends on what market the client wants to have exposure to. I personally like European stocks because they offer much better value than U.S. stocks.

“European markets haven’t had the run the U.S. had.

“The terms of the Euro Stoxx deal are much better. But I also like the underlying investment theme.”

Tenor

Ideally, Balcom prefers shorter-dated notes, in particular three-year tenors.

“We have laddered maturities, which we roll every year. Having a three-year max maturity gives us more flexibility,” he said.

“You can recalibrate the terms –increase or decrease the leverage, modify the cap or the buffer based on the market conditions.

“Five years would not be my top choice, but the huge leverage on the Euro Stoxx deal is very appealing.”

Steven Jon Kaplan, founder and portfolio manager of TrueContrarian Investments, also preferred the European equity play.

“It seems much more attractive. Having that much leverage without a cap is a good thing. The protection is good too, but it’s not what’s the most important for that asset class,” he said.

U.S. anomaly

Kaplan said that the European deal was not just offering an appealing structure. He liked the underlying index too.

“The European stock market has done poorly and a lot of this has to do with fears. People are worried about political risk,” he said.

Since its January high, the Euro Stoxx 50 index lost 24% while the S&P 500 index has declined by only 3.5%, he noted.

“Here in the U.S., we’re not that down from our January levels. In fact we’ve hit new highs in September. “Meanwhile global markets, especially emerging markets and China but also Europe are getting pounded.

“It doesn’t make sense for certain countries in the world to be down 25%, 30% while the U.S. continues to outperform.”

Fear is overdone

Kaplan is relatively optimistic about European markets, because he believes the decline is due to political fears, which will ease up rapidly as soon as uncertainty is lifted.

“Investors are worried about (Chancellor Angela) Merkel in Germany who said she’ll resign; political instability in Italy makes people nervous. They’ve had hundreds of prime ministers since the Second World War It may be scary. But that’s how they operate.

“Many times political fears – fear about an election, about coalitions, about trade negotiations – have little impact on the economy. Once the unknown becomes news, prices go back up.

“European stocks are a bargain right now.”

Protect yourself

If he had to choose between the two U.S. equities-based deals, Kaplan would choose the notes linked to the S&P 500 index.

“I’m not a big fan of the U.S. stock market, because it’s overpriced. But if I had to pick one, I’d prefer the notes with the bigger buffer, the one on the S&P,” he said.

“I’m expecting big price drops in the U.S. so having a 26% buffer can’t be bad.”

Morgan Stanley is the guarantor.

Morgan Stanley & Co. LLC is the agent.

The three deals will price on Nov. 27.

The Cusip number for the notes linked to the S&P 500 index is 61768DKH7.

The Cusip number for the notes linked to the Dow Jones Industrial is 61768DKF1.

The Cusip number for the notes tied to the Euro Stoxx 50 index is 61768DKD6.

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