JPMorgan’s uncapped dual directional barrier notes on S&P aimed at cautious bulls

By Emma Trincal

New York, Dec. 20 – JPMorgan Chase Financial Co. LLC’s 0% uncapped dual directional contingent buffered return enhanced notes due Dec. 26, 2025 linked to the S&P 500 index offer investors an opportunity to realize gains in both directions of the market with more upside potential, giving the payout a bullish tilt. The notes can be used as a substitute for an exchange-traded fund as they can easily be deployed in a portfolio for asset allocation purposes, said Suzi Hampson, head of research at Future Value Consultants.

If the index return is positive, the payout at maturity will be par plus 1.32 times the index gain, according to a 424B2 filing with the Securities and Exchange Commission.

If the index falls by up to 30%, the payout will be par plus the absolute value of the index return.

If the index falls by more than the 30% contingent buffer, investors will be fully exposed to any losses.

Growth-oriented

“This is the opposite of a short-term, autocall, income-oriented type of note,” she said.

“We’re dealing with a six-year growth product. It is designed to be part of an equity allocation.

“It’s more straightforward than an autocallable note. And you can easily compare it to a fund because the index performance is so key.

“It is a bit more defensive than an ETF though since you have a barrier with an absolute return up to 30%.

“But in exchange, you’re subject to the issuer’s credit risk, you are holding the notes for six years and you’re not getting the dividends.”

The notes allowed investors to possibly beat the index on the downside within a range via the absolute return feature.

On the upside the leveraged and uncapped return provide obvious benefits.

“If the index rises, you’re also likely to outperform the ETF because the leverage will compensate you for any loss of dividends,” she said.

Stress-testing

Future Value Consultants offers stress testing on structured notes which determine the probabilities of occurrence of various outcomes. Each report contains 29 tests based on five distribution assumption sets. Four of them are market scenarios (bull, bear, less volatile and more volatile) and are based on volatility and growth rate assumptions.

The neutral scenario is used in all the reports as the basis, reflecting standard pricing.

“Investors buying this note would have to be bullish, which is why they would want to look at the bullish assumption in our report,” she said.

High chances of gains

Hampson examined the results of one of the tables called “capital performance tests.”

It showed the probability of the three possible outcomes associated with the structure – return more than capital, return exactly capital and return less than capital.

The first outcome encompassed gains realized from a rise in the index as well as from the absolute return. The model however does not distinguish between those two scenarios, she said. Therefore, the model does not predict to which extent the absolute return contributes to the overall positive outcome.

In the bull scenario, the probabilities for “return more than capital” are extremely high at 92%. The same probabilities under the neutral assumption are 74.55%.

The bull scenario will show better probabilities since it is calculated on the basis of a higher growth rate in the underlying.

The neutral scenario does not really guide investors in terms of simulation. It merely reflects standard pricing based on the risk-free rate, dividends and volatility of the underlying.

“Presumably if we ran this scenario without the absolute return, the probability associated with the return-more-than-capital bucket would go down. We just don’t know how much is due to the rise in the index versus the absolute return gains,” she said.

“This product does best in a bull scenario, obviously, both because of the higher return and also because as the market goes up, you’re moving away from the odds of losing capital.”

Leverage

One of the reasons this product differs so much from autocallable stress-testing is that returns are “very sensitive” to the growth of the underlying, she said.

“With an autocall, it doesn’t matter how much the underlying goes up, a little bit or a lot. It can even be flat. You make the same amount of return as long as it doesn’t go down below a certain level,” she said.

“With this note, the return on the upside is very dependent on growth.”

“The high probabilities of getting a positive outcome are in large part the result of the upside leverage, especially under the bull assumption,” she said.

“The leverage boosts the return and it has a huge effect on the distribution of probabilities. This is clearly a very different payout than what you would get from a tracker.”

The absolute return has a cost, however.

“You would want the absolute return if you’re bullish but also slightly cautious,” she said.

“If you hadn’t included this feature, you may have been able to get a higher gearing, making the note more specifically bullish.

“Alternatively, you could have shortened the maturity.”

Average payoff

Two other tables give an idea of the average payoff under the neutral scenario

The average payoff for the “positive return” outcome (all gains included, whether they originate from the upside of from the absolute return) is 33.6%.

Another average payoff can be calculated from all three outcomes, including losses, gains and neutral. In such case, the average payoff would be 10.08%.

Neutral, negative outcomes

The second outcome in the table –return exactly capital –has a zero-probability associated to it. Either investors get a profit on top of their initial investment or they lose capital, she explained.

This is due to the absolute return feature, which transform the standard barrier into a range of potential profit.

As a result, the chances of losing capital (“return less than capital” bucket) are the reverse of the “return more than capital” outcome. They are obtained by subtracting the positive outcome from 100.

In the neutral scenario, investors will lose money 25.45% of the time. Under the bull assumption the probability drops considerably to 8%.

“This product essentially gives investors exposure to the S&P 500 index like a tracker fund but with a modified payout,” she said.

“You get exposure to the index. But the payout is altered to meet a specific investor’s profile.

“If you’re happy with the six-year holding period, this note can be used as an alternative to a long position in the ETF. The defined outcome gives you opportunities to outperform on both sides.”

The notes are guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes will settle on Dec. 30.

The Cusip number is 48132HJQ6.

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