Structured products issuance $730 million for week; rates products, digitals in focus

By Emma Trincal

New York, Oct. 11 – The first week of the month started with $730 million in 126 deals, according to preliminary data compiled by Prospect News. On average, the tally for the initial week of the month is $1.12 billion, the data showed. However, figures are not final, and the latest weekly tally will be revised upward once issuers complete the filing of their deals with the Securities and Exchange Commission.

Last week’s main market theme was the continued bond sell-off, which has pushed long-term yields to levels not seen in 16 years. Divergences of returns were notable in the equity markets. While higher interest rates are a headwind for tech stocks, the Nasdaq rose 1.6%. Meanwhile the Russell 2000 lost 2.2% and the S&P 500 index finished nearly flat.

Long-term rates

A strong job report on Friday sent the 10-year Treasury rate to 4.86%. Six months ago, the benchmark yielded 3.25%.

“This move reflects a more bullish view on the economy. The market expects that inflation will be higher over the long term,” said Brady Beals, director, sales and product origination at Luma Financial Technologies.

Rate products issuance made for 10% of last week’s notional, which was about twice as much as a share of the total than the year-to-date average.

The trillions of dollars the Federal Reserve has been printing to finance its debt are part of the problem, said Mark Dueholm, chief fixed-income trader at Landolt Securities.

“We have a massive amount of debt supply. The Treasury is issuing debt like crazy. This puts pressure on bonds on the long end.”

“Also, the market is now thinking that the Fed will keep interest rates higher for longer and that has an impact on long-term rates too,” Dueholm said.

$50 million rate deal

With higher rates comes a heavy bid on rate-linked notes of various maturities. Floating-rate notes and fixed-to-floating rate notes have been the preferred choice so far this year.

“Interest rates have moved up so much, people are going to be attracted to those notes,” said Dueholm.

Case in point: Citigroup Global Markets Holdings Inc. priced $50 million of two-year floating-rate notes based on the one-year U.S. dollar SOFR ICE swap rate.

Interest is payable quarterly at a rate equal to the one-year U.S. dollar SOFR ICE swap rate plus a spread of 87 basis points, subject to a floor of 0%. The payout at maturity will be par.

Fixed to floating

Canadian Imperial Bank of Commerce priced two other issues of floating-rate notes. The first one, a $15 million offering of five-year notes, is linked to the SOFR and two-year U.S. dollar SOFR ICE swap rate. The second was a $10.5 million issue of three-year fixed-to-floating rate notes linked to the five-year U.S. dollar SOFR ICE swap rate.

Floating-rate notes have been less popular than fixed-to-floating rate notes so far this year. But things may be changing as last week showed a different picture. As always, risk premium is what drives the shift from one payout type to another.

“A floating rate has more uncertainty built into it, especially if the rates will go down. So, you get better terms,” said Beals.

But the biggest deal seen last week was in the equity space.

Digital notes issuance made for a quarter of total sales, or $181 million in 12 deals. One big offering made for more than half of this volume.

Big digitals

Royal Bank of Canada priced $103.96 million of two-year digital notes tied to the S&P 500 index.

If the index finishes at or above 90% of its initial level, the payout at maturity will be par plus 21.65%.

Otherwise, investors will lose 1.1111% for every 1% that the index declines beyond 10%.

“We’re seeing so many digitals. They’re short-term...one-year, 13-months. They’re getting bigger too. People buy them at pretty deep levels. They’re popular because they offer a better tax treatment than income notes,” said Beals.

Almost all digital notes last week were structured “in-the-money,” meaning the digital payout strike is below par (the call option is “in-the-money as the price is above the strike). Geared buffers were also widespread as opposed to the traditional barrier.

JPMorgan Chase Financial Co. LLC priced another large digital issue showing both the buffer and the “in-the-money” option. It was a $30.33 million issue of one-year notes on the S&P 500 index. If the index gains or falls by no more than its 15% geared buffer, the payout at maturity will be par plus 9.08%.

“We see digitals every month, but we don’t do a whole lot of it except if they’re dual directionals,” said Dueholm.

“You may get a high rate if the index is up at all, but you don’t receive any income and that’s not an ideal situation since 5.5% is what you get sitting in cash nowadays.”

For Dueholm the increasing use of buffers is not necessarily an improvement.

“I prefer barriers to buffers. You get more protection. I’d rather get 30% protection and take the risk of losing at least 30% versus a 10% buffer that protects me only up to 10%. I’m far less likely to lose with the barrier,” he said.

Funding rates

Callable (and autocallable) notes made for 42% of the total last week in 79 deals totaling $305 million. The market share for this structure so far this year is 47%. This category includes Phoenix autocallables and snowballs as well as automatic and discretionary calls.

Beals noted that funding rates are helping those structures.

“For conservative products, the premium over Treasuries is pretty good,” he said.

“We’ve done a five-year worst-of on the S&P and Dow, 50% coupon barrier, 50% barrier at maturity with an 8.3% contingent coupon, issuer call after six months.

“Funding is certainly there and it’s muting the drop in volatility. For conservative structures, volatility doesn’t have as much of an impact.”

But volatility remains the key driver behind the pricing of more “aggressive” structures, he noted.

One of last week’s top deals illustrated some of the techniques issuers may use to boost the coupon.

Over $40 million

Barclays Bank plc priced $46.45 million contingent income callable securities due April 9, 2026 linked to the worst performing of the Russell 2000 index, the S&P 500 index and the Nasdaq-100 index.

The notes will pay a contingent quarterly coupon at an annual rate 12.5% based on a 75% barrier observed daily, or “American barrier.” The issuer has the discretion to call the notes on any quarterly payment date. Morgan Stanley Wealth Management is the dealer.

The combination of a worst of three underliers, American barrier and issuer call helped explain the double-digit coupon on an index-linked income note.

On the leveraged front, Goldman Sachs priced on the behalf of Bank of Nova Scotia $42.61 million of 13-month notes tied to the S&P 500 index. The payout is 1.5x leverage on the upside up to a 20.1% cap with no downside protection.

The tally for leveraged notes was $153 million in 23 deals, or 21% of the total.

New credit VIX indexes

Regarding new potential underliers, Cboe and S&P Dow Jones launched last week four new credit VIX indexes designed to track the expected volatility across the North American and European credit markets.

Specifically, the new indexes are designed to track near-term uncertainty around corporate credit risk by measuring the market’s expectation of how volatile credit default swap (CDS) index spreads will be over the next 30 days, according to a joint press release from the exchange company and rating agency issued last week.

“You could use credit VIX indices to structure notes if there’s enough liquidity,” said Beals.

“I can see it on a knock-out, for instance a 12-month note that pays x as long as the volatility index is above a certain strike. You could do anything really if there’s enough volume.”

Updated data for the year to date showed $71.64 billion of structured products sold in 16,991 deals through Oct. 6, a 3.45% decline from $74.16 billion issued a year ago in 22,644 offerings.

Last week’s top agent was UBS with 45 deals totaling $134 million. or 18.3% of the total.

It was followed by Royal Bank of Canada and JPMorgan.

Royal Bank of Canada was the No. 1 issuer with eight offerings totaling $130 million, a 17.8% share.

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