Morgan Stanley’s enhanced buffered jump notes linked to Russell 2000 to fit sideways outlook

By Emma Trincal

New York, Feb. 28 – Morgan Stanley Finance LLC plans to price 0% enhanced buffered jump securities due April 1, 2024 linked to the Russell 2000 index, according to an FWP filing with the Securities and Exchange Commission.

If the final index level is greater than or equal to the downside threshold value, 85% of the initial index level, the payout at maturity will be par plus the greater of the index return and the upside payment, which is expected to be at least 21% and will be set at pricing.

If the final index level is less than the downside threshold value, investors will lose 1% for every 1% that the index declines beyond 15%.

Slightly bearish

The notes offer more appeal on the downside than on the upside, unless the index increase is modest, said Steve Doucette, financial adviser at Proctor Financial.

“If you think the market will trade sideways, it may be worth considering,” he said.

Doucette said he buys structured notes to generate excess returns. With this product, investors may outperform significantly but within a range.

Not for bulls

“You’re going to outperform between negative 15% and positive 21%, but when you really look at it, at least if you’re bullish, you’re not going to significantly outperform,” he said.

“What if the index after five years is up 20%? You’ll get 1% more. You’re not beating the market by a whole lot. When you think of it, 20% in five years, that’s 4% a year. You might as well consider that you’re long the index on the upside. The closer you get to this 21% minimum return, the more it’s like being long the index.”

The payout on the downside offers more appeal, which would make the note more attractive to a slightly bearish investor.

“Your payout is skewed to the downside a little bit. If the index is down, that’s when you’ll really outperform nicely,” he said.

“This note is skewed to provide you a higher return than an absolute return.”

He explained it as follows: In an absolute return note, each point of decline down to negative 15% would be a positive return on a one-to-one basis. If the index declined by 10%, investors would gain 10%.

On the other hand, this note propels the return to positive 21% regardless of the level of index decline as long as the decline is less than 15%.

“Assume the index drops 14% at the end. If it was an absolute return, you would get positive 14%. You would be outperforming the market by 28 points,” he said.

“With this one, [if] you’re down 14%, you make 21%. You’re beating the market by 35%. Getting a 35% excess return is certainly better than 28%.”

Midway in the range

The 28% versus 35% outperformance, or seven percentage points, would be the narrowest gap between the two payout types. As the index decline decreases, the notes provide a superior outcome, he noted.

For instance, if the Russell 2000 were down by only 1%, the Morgan Stanley notes would generate a 21% positive return while an absolute return product would only yield a 1% gain. In such case the gap in excess returns between the two structures would be 20 points, making the digital notes a much better vehicle to generate alpha.

“Either way, whether you look at the downside or the upside, this is a note for someone who thinks the market will be range bound. If that’s your view, it’s perfect for that,” he said.

“If I wanted to improve it in order to fit my own view, which is more bullish, I would want to add some leverage. But you would have to give up something, and the note is not designed for that. There isn’t anything that you could give up to make this more of a bullish play. That’s not what it’s for.”

Term, index

Matt Medeiros, president and chief executive of the Institute for Wealth Management, said he liked the notes.

“In light of recent economic information, including GDP figures, I do like the index,” he said.

“The fact that it is a five-year note is a good thing. Right now, I’m more comfortable with longer maturities than with short-dated products.

“I have a normal weighting in small-caps. And I like the space. Small-caps is an area that has the potential to grow.

“It’s also a more volatile asset class, so in that regard having a 15% buffer is a good thing.”

Medeiros added that he liked having a buffer and the potential to get a minimum return if the index is down by less than 15%.

For uncertain times

“There is a lot of uncertainty in the market right now. I think it’s good to have a positive return on the downside and a minimum return on the upside,” he said.

Medeiros agreed that for bulls, the notes do not offer any particular advantage over owning the index outright.

“This is not a bullish note. But it would probably be consistent with our outlook right now. I’m not too bullish on anything, and I’m not bearish either.”

Another appealing aspect of the product is its simplicity.

“The structure is not particularly exciting. It’s almost boring. But that’s what’s nice about it. It’s not difficult to track. It’s pretty straightforward.”

The notes will be guaranteed by Morgan Stanley.

Morgan Stanley & Co. LLC is the agent.

The notes will price March 26.

The Cusip number is 61768DV51.

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