Structured products tally $616 million for week; stock bid higher amid equity rally

By Emma Trincal

New York, June 30 – Structured products agents priced $616 million in 168 deals in the week ended June 25 as the market hit new highs, pushing down volatility, making pricing more challenging. The data compiled by Prospect News is only preliminary. Several block trades sold within the BofA Securities franchise priced on June 24 and could not be added to the database at press time.

It’s unclear whether BofA’s monthly calendar was priced last week, which was the last full week of the month, quarter and first half of the year or this week instead. The 4th of July weekend coming up suggests that the former scenario is the most likely.

U.S. stocks hit fresh new highs last week, recovering from a taper tantrum sell-off the week before induced by a hawkish Federal Reserve announcement.

Last week brought better news, such as an agreement for a $1.2 trillion infrastructure package between the White House and a bipartisan group of senators. To smooth things out, Fed chair Jerome Powell said he would not raise rates preemptively. Finally, all banks passed the Fed’ stress test, opening the door for dividend payouts and share buybacks.

Rally, mid-term vol.

The S&P 500 index had its best week since February, up 2% on the week.

Volatility as measured by the VIX index dropped to 15 at the end of the week, almost two-thirds off its October high.

It was the U.S. bull market as usual, a sellsider said.

“A 2% move on a week is no big deal,” he noted.

“The market has been going up for 12 years.”

Yet, one of the challenges with the current rally is to get enough premium when selling options to generate high yields and low barriers.

The S&P 500 index is up 15% this year, and buysiders interviewed by Prospect News have noticed, deploring the significant drop in coupons.

For the sellsider, everything is relative.

No alternative in bonds

“The premium is what it is. There’s not much people can do to change that,” he said.

“People have to accept lower coupons.

“But it’s still attractive compared to the bond market where you have no yield.

“Getting 4% or 5% despite the equity risk is still appealing for some people – maybe not that appealing for those who used to get 9% or 10% but still, better than what’s out there in the bond space.”

Vol. hunting

One way to raise the coupons on autocalls and income notes, which are short volatility, is simply to look for more volatile underlying. The trend has been increasingly evident throughout the year. Last week alone, stocks made for 30% of total sales versus 38% for indexes.

Issuance volume of notes linked to single stocks is up 73% this year through June 25 to $8.71 billion from $5.04 billion, and the number of deals grew to 4,041 from 2,368, a 71% increase.

“As an alternative in this low vol. environment, we’ve seen more interest in the single-stock trade because yields are higher. Most people when they think structured notes want double-digit coupons,” the sellsider said.

Gapping down

A structurer has even developed his own contrarian system to extract premium.

“You do find value in single stocks. But if you pick the right ones, you find enormously valuable deals,” he said.

“We look for stocks that, at some point, are gapping down. Why not strike when volatility is rich, and the stock is depressed, down 20%, 30% or even 40%?

“We look for corrections in a stock that are likely to be corrected. Some stocks drop significantly due to circumstances that have nothing to do with their fundamental value. There’s nothing wrong with the stock. It could be that all of a sudden people want to sell, and the stock can’t absorb so many sell orders at the same time. But it’s not life threatening for the stock.

“You have to spot the opportunities where they are. I wouldn’t strike deals on Amazon or Tesla.”

As an example, he said that at the end of May, his firm priced a note on ViacomCBS Inc. The share price then was 60% off its mid-March high.

“We struck a one-year note at that time. Volatility was up and near 100.”

The notes pay a 10% contingent coupon based on a 70% barrier. There is a six month no-call period. The barrier at maturity is 57% of the initial price and the autocall trigger is at 90%.

“We look at that pattern all the time: stock gapping down for the wrong reason, big margin of safety. We did similar deals on Tencent Music Entertainment Group, which dropped almost 20% in March in the course of a couple of days,” he said.

Index worst-of

Index-linked notes even as worst-of can’t compete with yields generated by stocks, especially those in free fall. But they have their own benefits.

“People do indices. If they’re looking for yield, they have no clue. But from a safety standpoint, index products are usually good products. They only take market risk. Usually, you don’t get hit,” he said.

Year to date

Volume this year is up 6.6% to $38.87 billion from $36.45 through June 25. Most market participants attribute the robust issuance volume to the dominant presence of autocalls.

Phoenix autocalls this year represent 60% of the market versus 43% last year. Their volume has jumped 43% to $23.16 billion from $16.15 billion a year ago, and the number of such deals is greater by more than a third.

Rolling and rolling

There is a direct relationship between the popularity of autocalls and the pace of sales, said the sellsider.

“I haven’t seen an expansion of the user-base; so, I don’t think we can attribute the increased volume to new money coming in,” the sellsider said.

“Instead, there’s a lot of money turning over. You have to place it somewhere.

“Everything is getting called in this market. A lot is being rolled. If we had a bear market, volume would drop significantly just by virtue of the notes not getting called. I don’t know. Depending on the severity of the pullback, volume could drop 40%, 50%. It’s just a guess. It really depends on the nature of the drawdown. If we don’t have a massive sell-off or if we have a short-lived sell-off like last year, people will jump back in the market. The terms would be too good to pass.”

Asked whether he could break down the volume coming from new money versus rollovers he said that: “I would guess about a third of the money circulating is recycled money.”

Recovery bets

The reopening trade continued to be a major trend last week.

Morgan Stanley Finance LLC priced $10 million of digital notes linked to the worst of four stocks, three of which associated with an improved economy. Those are Airbnb, Inc., Caesars Entertainment, Inc., Alphabet Inc. and United Airlines Holdings, Inc.

If each stock finishes at or above its 60% downside threshold level, the payout at maturity will be par plus 19.6%. Otherwise, investors will be fully exposed to the losses of the worst-performing stock.

In the previous week, JPMorgan Chase Financial Co. LLC priced $32.96 million of autocallable contingent interest notes due March 21, 2024 linked an equally weighted basket of the shares of Spirit Airlines, Inc., American Airlines Group Inc., Skywest, Inc. and United Airlines Holdings, Inc. The contingent coupon is 10% based on a 70% barrier. The barrier at maturity is 60%.

Theme investing

Energy was the best-performing sector last week with crude oil prices rallying. West Texas Intermediate Crude Oil futures have climbed 53% this year. Energy bulls played on a number of underliers such as the Energy Select Sector SPDR fund and the SPDR S&P Oil & Gas Exploration & Production fund on the ETF side as well as stocks such as Devon Energy Corp., Phillips 66 and Schlumberger NV.

Tech stocks continued to be among the most common underlying. Headlines have suggested that stock investors are rotating assets from cyclicals into growth when inflation fears subside, and rates decline. They do the reverse rotation when inflation and economic growth are on the forefront.

What may be true for the stock market does not necessarily apply to structured notes, the sellsider said.

“People want yield and deep barriers. The solution is not to do sector plays to express a view on growth versus value and vice-versa. What people are looking for is volatility. When people sense there is heightened volatility somewhere, they jump in,” he said.

But the structurer said he sees “sector plays” or “theme investing” as positive developments.

“I have no problem with that. At the end of the day what you’re looking for is good performance. When we strike a worst-of on energy for instance or a worst-of on financials, correlations increase, and the risk is lower. Also, you have to consider the point of view of the asset allocator. If you keep things within the same sector, it’s much easier to manage the portfolio.”

Top deals

Another sector play last week was banks. On Thursday, 23 banks passed the Fed’s stress test. The day before, Citigroup Global Markets Holdings Inc. priced $30 million of one-year contingent income autocallable notes linked to Bank of America Corp. The week before, Barclays Bank plc sold $42.07 million of three-year contingent income autocallables on Wells Fargo & Co.’s stock.

Looking at block trades, BofA Securities sold a large Accelerated Return Notes deal on the behalf of the Toronto-Dominion Bank. The $80.25 million 14-month notes tied to the S&P 500 index pay triple the gain capped at 10.12%. Investors are exposed to the downside.

UBS distributed Citigroup Global Markets Holdings’ $39.6 million of trigger callable contingent yield notes with daily coupon observation due Sept. 26, 2024. The exposure is to the worst performing of the MSCI Emerging Markets index, the Russell 2000 index and the S&P 500 index.

UBS was the top agent last week with 105 deals totaling $263 million, or 43% of the total, according to the preliminary data. It was followed by Morgan Stanley and Citigroup.

The No. 1 issuer was Citigroup Global Markets Holdings.

© 2015 Prospect News.
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