Citibank's six-year CDs tied to commodity basket is for cautious investors, income-seekers

By Emma Trincal

New York, June 14 - Citibank, NA's planned market-linked certificates of deposit based on a basket of commodities should appeal to income-seeking investors looking to gain access to commodities but with principal-protection as the outlook for the global commodity market remains unclear, sources said.

Citibank plans to price market-linked certificates of deposit due June 24, 2016 based on a basket of equally weighted commodities and indexes, according to a term sheet.

The underlying commodities are corn, soybeans, copper - grade A, gold, silver, platinum, S&P GSCI Crude Oil Excess Return index, S&P GSCI Natural Gas Excess Return index, S&P GSCI Aluminum Excess Return index and S&P GSCI Wheat Excess Return index.

The coupon will be equal to the basket return, subject to a floor of zero. It will be payable in June of each year.

When calculating the basket return, the return of each basket component that has a flat or positive underlying return will be fixed at 9% to 12%, and there is a floor of negative 20% for the remaining basket component returns.

The payout at maturity will be par. The principal is insured by the Federal Deposit Insurance Corp.

Recent trend

"This is an income-generator product," said a market participant. "The floor level is competitive. You can't find a better floor than minus 20% right now. It's all between negative 35% and negative 20%."

"We've seen a few similar deals lately," this source added. "JPMorgan is showing something similar through Morgan Stanley with similar terms including a negative 20% floor."

He added that he liked the deal because "you're getting paid along the way to be right."

JPMorgan Chase Bank, NA plans to price contingent coupon market-linked certificates of deposit due June 24, 2016 linked to a commodity basket, according to a term sheet.

The basket includes equal weights of copper, gasoline RBOB, nickel, platinum, soybean meal, sugar, zinc, S&P GSCI Brent Crude Index Excess Return, S&P GSCI Corn Index Excess Return and S&P GSCI Livestock Index Excess Return.

The CDs will pay interest in June of each year. The coupon will be the sum of the weighted performances of the basket components, subject to a floor of zero.

If a basket component's return is greater than zero, its performance will be fixed at 9% to 12%, with the exact percentage to be set at pricing. If a basket component's return is negative, its performance will be the greater of the return and negative 20%.

The payout at maturity will be par.

The CDs are expected to price June 24 and settle June 29.

J.P. Morgan Securities Inc. is the agent. Morgan Stanley Smith Barney LLC is the distributor.

"I think there is demand for commodity-linked products, but there isn't much going on with notes right now. It's mostly CDs," said this market participant.

He mentioned a couple of other recently announced CD deals such as Union Bank, NA's plans to price zero-coupon principal-protected capped return market-linked CDs due June 30, 2015 linked to the Dow Jones-UBS Commodity index and set to price on June 28 as well as Wells Fargo Bank, NA's 0% market-linked CDs due June 30, 2016 also linked to the Dow Jones - UBS Commodity index for a June 23 pricing.

Commodities with protection

"I don't know exactly why people aren't doing notes. I think it's partly because investors are skittish about commodities right now. With the prospect of a global slowdown, including in China, and with the dollar higher, the bullish commodity trend has been put on hold," the market participant said.

"When growth is challenged, people are afraid. I think most people are still credit-sensitive. If you're a structured products buyer in commodities, you're going to want a floor and you're going to want it in the form of a FDIC-insured product," he added.

"Retail investors are reactive," added this market participant. "When commodities start to run, they'll go back into notes again. But right now, the demand is for products with floors,"

Unlike recent commodity CD offerings that are tied to one or several indexes, this product is based on a basket comprising six physical commodities and four commodity indices included in an equally weighted basket.

Odd mix

Bruce Greig, portfolio manager of Altin Holdings, a commodity pool operator, said that "it's odd that they would use a mix of indexes and commodities."

He wondered on which basis the issuer determined which commodities to include in the form of hard assets versus in index format when constituting the underlying basket.

"There are no strategic reasons for it. I imagine that they are doing this to offset some sort of a risk, whether it's a negative roll yield risk associated with commodities trading in contango, or some other form of risk, such as liquidity, volatility or even seasonal risk," Greig said.

Contango describes a carrying charge market, where commodities destined for later delivery are priced higher than commodities delivered earlier. As a result, the cost of rolling the futures contracts rises, eroding the performance of the underlying.

"Contango is part of the risk. You have contango in a lot of those commodities, especially with gold where the curve is very steep," the market participant said. "It's just what it is."

Six-year term

Greig said that the product needs to be evaluated in light of its six-year tenor as well as a long-term outlook on commodities.

"If you're happy with the income, I guess this may work for moderately bullish investors," Greig said.

"But it's hard to say what the outlook is going to be in six years. For the next one to three years, I am bearish on commodities and I see that as a phase in the context of a larger bull market that started five or six years ago. After that I would tend to be bullish again for the next three years. So six years may actually be a better point to begin than to end," he said.

Risks

The main risks associated with the CDs are the capped interest and the possibility of earning no coupon, the issuer warned.

"The annual contingent interest per deposit may be zero and will not be greater than 9% to 12%," the term sheet said.

Greig said that he is more comfortable with buy-and-hold investments as the payout mode in the CD is too unpredictable.

"It's more like a binary thing. If your coupon is 10% and you have a triple-digit year, all you're going to get is 10%. It's like an option. You have to be right about the timing. To make this investment, you really have to have pretty strong feelings almost year by year. To me that's a little tricky," he said.

The CDs are expected to price on June 23 and settle on June 28.

The exact deal terms will be set at pricing.

Citigroup Global Markets Inc. is the agent. Incapital LLC is the distributor.

Sales fee are 3.5%.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.