Morgan Stanley’s dual directional trigger jump notes on S&P 500 built for sideways market

By Emma Trincal

New York, Aug. 7 – Morgan Stanley Finance LLC’s planned 0% dual directional trigger jump securities due Sept. 6, 2023 linked to the S&P 500 index should appeal to investors who are not expecting high returns from the market, according to advisers.

If the index finishes at or above its initial level, the payout at maturity will be par of $10 plus the greater of the index return and the upside payment of 35.75%, according to an FWP filing with the Securities and Exchange Commission.

If the index falls but finishes at or above the trigger level, 80% of the initial index level, the payout will be par plus the absolute value of the index return.

If the index finishes below the trigger level, investors will lose 1% for every 1% that the index declines from its initial level.

Sideways view

“For someone who thinks the market is going to be range bound for the next five years, this is a good investment,” said Tom Balcom, founder of 1650 Wealth Management.

When assessing the pros and cons of a note, Balcom always takes into account the non-payment of dividends.

“In some cases, you get a good tradeoff but not always. Here it really depends on what your view of the market five years from now is,” he added.

The S&P 500 index yields about 2% bringing the opportunity cost over the term to 10%.

Dividends

On the downside, investors will outperform the price return of the index if its value finishes between negative 20% and negative 10%.

“In that range, the benefit of the absolute return would offset the loss of dividends,” he said.

On the upside, the zone of excess return would be if the index rose by up to the minimum return minus dividends or approximately 26%.

“That’s a nice stretch both ways...,” he said.

Coupon

Balcom said that for a sideways market, the minimum guaranteed return was appealing.

“It’s 6.3% per annum compounded. That’s a pretty healthy coupon if the bull market runs out of steam.

“Of course the risk here is if the market is up 50% five years from now. Then you’re underperforming by the dividend amount, you lag the market by 10%.

“You don’t have to worry about that if you’re bumped up to the fixed return because the index is so flat.

This is why the note is only appropriate in a mildly bullish or sideways market, he added.

“If you’re concerned about rising interest rates headwinds, if you think the long bull run is over, then it’s a nice note that provides a good return.”

Tweak

Asked whether he would consider investing in the notes for his clients, Balcom said he would probably take a more defensive stance.

“I like the concept of this product. But I probably would want to increase the downside protection. The market is hitting new highs. Stocks are at high levels. Personally I’d rather have a larger buffer than the having the absolute return.

“Right now if the market is down 21% you lose 21%. If you had a 30% buffer, you would lose nothing. That’s a much better conversation to have with a client.”

Low expectations

Worrying about a toppish market and expecting modest gains in the future represented the rationale behind the investment, reasoned Donald McCoy, financial adviser at Planners Financial Services.

“I can imagine this being appealing to people who don’t see much upside. It’s for someone who’s not overly pessimistic about the market but not enthusiastic either,” he said.

“There are a lot of people who fall under this camp. I personally haven’t seen many investors who expect the S&P to be up 8% a year over the next five years.

“If your expectation is 5% a year, you’ll be happy to get 6.5%.”

Benefits

The minimum guaranteed return enhances gains if the market is very flat, he noted. The uncapped upside allows investors not to be penalized if the market trend is bullish.

“On the downside, you’re not just getting a 20% barrier. You’re getting 20% inverse the index,” he said.

“The only thing you don’t have is the dividend.

“But given that you expect a very moderate gain you’re willing to give that up for the guarantee of having a return higher than you would expect.”

The recent rally following bouts of volatility should be cause for caution as values are stretched, he noted.

At Tuesday’s close, the S&P 500 was down just 0.5% from its January peak of 2,872.87.

“At current valuations, it makes sense to have very moderate expectations from the market,” he said.

“This product fits that profile.”

The notes will be guaranteed by Morgan Stanley.

Morgan Stanley & Co. LLC is the agent with Morgan Stanley Wealth Management handling distribution.

The notes are expected to price on Aug. 31 and settle on Sept. 6.

The Cusip number is 61768R443.

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