Morgan Stanley’s $24.09 million notes on S&P offer dual directional gains with bearish bias

By Emma Trincal

New York, Jan. 19 – Morgan Stanley Finance LLC’s $24.09 million of 0% dual directional trigger participation securities due Jan. 30, 2023 linked to the S&P 500 index provide a dual directional market bet with a bearish and short-term bias, sources said.

If the final index level is greater than the initial index level, the payout at maturity will be par of $10 plus the index return, capped at par plus 9%, according to a 424B2 filing with the Securities and Exchange Commission.

If the index declines by 20% or less, the payout will be par plus the absolute value of the index return.

If the index declines by more than 20%, investors will lose 1% for every 1% that the index declines from its initial level.

Bearish tilt

“It’s a capped dual directional note with more return potential on the downside since you can make up to 20% in a down market versus 9% if the index is up,” a sellsider said.

He described the structuring as follow:

“You’re long a 100-strike call and short a 109 call to cap your upside.

“On the downside, you’re long two down-and-out puts, one for the protection, one for the performance.”

“They both strike at 100 with a knock-out price at 80.

A down-and-out put refers to the typical barrier option. The put option can no longer be exercised, in other words is deactivated, if the underlying falls below a specific trigger.

Uncertain waters

The notes are designed to help investors navigate an uncertain market environment, he added.

“People who are unsure about the impact of the change in monetary policy and inflation may be attracted to this twin-win payout,” he said.

“After more than a decade of monetary accommodation and high equity returns, we may be heading towards a correction.

“That structure may be interesting if you have this slightly bearish outlook.

“You could get rewarded on the upside unless the market stays where it is, which is unlikely. If you get 9%, at least you protect yourself against inflation.

“If it goes down 20%, you significantly outperform the market.”

The notes would have been much more attractive with a buffer in place of a barrier, he said.

“Buffers can be done on absolute return notes. But not on a one-year. You just couldn’t price it,” he said.

“A barrier is cheaper. You can extend the range of absolute return and get better terms.”

Classic play

The terms of the notes are relatively typical aside from the short tenor, according to data compiled by Prospect News.

Most absolute return notes remained structured on barrier options rather than buffers, according to the data based on last year’s tally. The year saw the pricing of 714 absolute return note offerings totaling $1.74 billion.

Those notes were all capped. About two-thirds of them provided for a one-to-one participation on the upside. When levered, the multiple averaged 1.35 times.

Akin to this note, 80% of absolute return notes seen last year were tied to equity indexes. The distribution between single index and worst-of was approximately even.

The use of the S&P 500 index as with this product was relatively common. Agents priced 102 such offerings last year totaling $583 million, the equivalent of a third of absolute return issuance volume.

However, absolute return notes last year showed longer tenors averaging 2½ years.

Thin barrier

A buysider was also intrigued by the short maturity of the note. But he did not feel comfortable enough about the downside risk.

“If the barrier was deeper, I would be more interested. But the S&P is so overpriced. We saw a 35% drop nearly two years ago. If the index falls by 35% and goes back up, it could still be down more than 20% a year from now because a year is not a long time.

“I would pass. There’s just too much risk on the downside,” the buysider said.

The notes are guaranteed by Morgan Stanley.

Morgan Stanley & Co. LLC is the agent. Morgan Stanley Wealth Management is a dealer.

The notes settled on Friday.

The Cusip number is 61773HE88.

The fee is 0.3%.

© 2015 Prospect News.
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