JPMorgan's $50.3 million capped knock-out notes linked to iShares MSCI EM seen as well priced

By Emma Trincal

New York, Dec. 15 - JPMorgan Chase & Co.'s $50.3 million of 0% capped fund knock-out notes due Dec. 26, 2012 linked to the iShares MSCI Emerging Markets index fund appealed to investors because of its pricing and structure, a sellsider said.

"It's a big number. But JPMorgan is one of the biggest. It's one of the two largest distributors right now with Merrill," he said.

"You'd expect that type of size from them if a deal is attractively structured and priced. And that's what we have here."

The notes offer a digital payment if a downside barrier is not breached during the life of the notes, according to a 424B2 filing with the Securities and Exchange Commission.

If the fund's closing level is less than the initial level by more than 30% on any day, the payout at maturity will be par plus the fund return, which could be positive or negative, subject to a maximum return of 19.15%. Otherwise, the payout will be par plus 19.15%.

Fee

The fee was 1%.

"It could be retail, or it could be institutional. But given the fee, I don't think it was a pension fund or an institutional client. Those wouldn't buy a one-year at 1%. It would be more like 20 basis points," the sellsider said.

"It was definitely for wealth management clients."

Structure

The structure was attractive both on the upside and downside, this sellsider said.

"It's definitely an interesting product. The weak part is the continuous barrier. It can happen anytime," he said.

"And the underlying fund is fairly volatile with a historical 30-day volatility of 40%. The implied [volatility] though is a little bit less. But bottom line, it's fairly volatile, so definitely there's a possibility that at some point, the barrier could be breached.

"However, 30% is a nice barrier, and the index represents different countries, as opposed to a single equity.

"The 19.15% upside is not bad. It's fairly attractive. If you could get 19% each year, you would be pretty happy, I think."

Objections

But for one independent financial adviser, the notes were not necessarily a buy due to their perceived "complexity" and also because of the risk involved with indexing emerging market equity.

"We would pass on this one," said Bill Garrison, president and portfolio manager at Garrison, Bradford & Associates.

"There are too many 'ifs' in this product. We have to explain those things to our clients. A client won't read a complex prospectus.

"Besides, in our statement, we have to have an abbreviated summary, and this would probably be too complex. The final issue is a question of marketability," he said.

The underlying index was also a concern, said Garrison, as he is skeptical about passive investing.

"I don't like to gamble on changes in indexes because I don't really believe these indexes are useful constructs. It's a bunch of people in a room who decide what's in there. They're arbitrary," he said.

"Emerging markets is a risky asset class, but when I invest in them, we play them individually. I buy the individual stocks."

Despite the short-dated maturity, Garrison said that he would rather extend the duration and reduce the risk even if that meant a lower return.

"I can go out and get 7% in corporate debt that's undervalued and have a three-year. I'm playing it safe," he said.

J.P. Morgan Securities LLC was the agent.

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