JPMorgan’s uncapped leveraged notes on Stoxx, EAFE ETF offer value bet, advisers say

By Emma Trincal

New York, Aug. 4 – JPMorgan Chase Financial Co. LLC’s 0% uncapped buffered return enhanced notes due Sept. 5, 2025 linked to the Euro Stoxx 50 index and the iShares MSCI EAFE ETF were well-received by financial advisers who said that both the terms of the product and the underlying valuations were attractive.

If the worst performing asset gains, the payout at maturity will be par plus at least 2.05 times the return of the worst performing asset, according to a 424B2 filing with the Securities and Exchange Commission.

The exact leverage factor will be determined at pricing. The payout will be par if the worst performing asset declines but by no more than the 10% buffer. Investors will lose 1% for every 1% that the worst performing asset declines beyond the buffer.

Credit

“This is a very interesting note,” said Steven Foldes, wealth manager and founder at Evensky & Katz / Foldes Financial Wealth Management.

He first said that he liked the creditworthiness of the issuer.

JPMorgan has the tightest five-year credit default swap spreads among all big U.S. banks, according to Markit, he noted.

In addition, Foldes found the 0.25% fee disclosed in the prospectus to be “reasonable.”

Rich dividends

But more importantly, the three-year, uncapped leveraged upside with a downside buffer provided a valuable structure for investors, he said.

“This is an attractive note notwithstanding the fact that there is a significant loss of income due to high dividends,” he said.

The dividend yield of the iShares MSCI EAFE ETF is 4.65%. The Euro Stoxx 50 index yields 3.36%.

On the other hand, the timing and entry prices of the trade were compelling, he said.

“Both indices are trading at deep discounts right now ... hopefully in three years they should be highly positive.

The shares of the EAFE ETF are off more than 20% from their September high. The Euro Stoxx 50 index shed more than a third of its value since its November peak.

No cap

“The two times leverage uncapped is what makes the notes work. If you add to that the low entry price, you’re likely to get a very nice return,” he said.

Without the uncapped upside, Foldes may not have found the notes attractive due to his bullish view on the two underliers.

“When you have a good chance to get a solid return, you want to fully participate in the upside. The uncapped is critical and a key component in my interest in this note,” he said.

Buffer, term

He also examined the downside.

“If you’re wrong, if we still don’t have a resolution to this war in Ukraine – and I don’t think it will be the case – but assuming things get worse on a geopolitical level, you do have this 10% hard buffer, which is nice,” he said.

The three-year tenor was an additional advantage to investors, he noted.

“Three years gives you plenty of time to resolve what’s going on in Europe whether we’re talking about a recession or the war in Ukraine,” he said.

Offsetting factors

The non-payment of dividends was the main negative aspect of the investment. But the terms of the notes helped mitigate the opportunity cost.

“If you’re down at maturity, you may not outperform due to the loss of dividends. But the buffer will offset some of it,” he said.

The leverage played a similar role.

“The leverage will do the same, absolutely. We’re talking about twice the upside. This will more than offset the loss of dividend income we would receive if we owned the ETF,” he said.

Finally, Foldes liked the choice of the underlying assets.

“The EAFE and the Euro Stoxx are highly correlated. That’s what you want with a worst-of. They’re highly correlated because of the high European weight in the EAFE,” he said.

European stocks make for more than 60% of the MSCI EAFE fund’s portfolio.

“All put together – the depressed price, the terms, the high correlation between the indices – this seems like a pretty good bet.”

Value play

Steve Doucette, financial adviser at Proctor Financial, said that before considering the notes, one had to decide how much to allocate to international developed market stocks.

“I like the structure of the notes... two-times up, no cap and the downside protection. You’ll outperform if it goes up and if you’re wrong, you have a 10% buffer,” he said.

As an asset allocator, Doucette said there is a strong case to be made for non-U.S. developed markets given their lower valuations.

“I’m a strong believer in reversion to the mean. Those two indices have been underperforming the U.S. for a decade. From a pure value perspective, this is a good exposure to have,” he said.

Headwinds

But macroeconomic and geopolitical challenges are still weighing on Europe, he said.

“If you think there is no end in sight in Ukraine, that’s a risk.

“Also, Europe is in the middle of a bad energy crisis. How are they going to get out of that one?” he said.

In other parts of the world, trade and military tensions are growing, adding uncertainty to the global equity outlook.

Some unpredictable events however may not necessarily be negative.

“If the war in Ukraine ends, these two indices could pop,” he said. “There’s a huge concern about what’s going on now. But three years from now, will Europe make a comeback? And when?

Picking the right bucket

“That’s a tough question. But Europe being more fairly valued than the U.S., I do believe it will come back.”

Doucette said he has a fairly large allocation to international stocks.

“Buying a note like that makes sense. But what should be your total allocation to international equities? Should it be 5%, 10%, 20%? The answer to this requires doing some serious due diligence.”

Long-term analysts rely on low valuations, he said, adding that some of them suggest going as far as 15% to emerging markets, a more volatile asset class than the EAFE and Europe.

“It all boils down to how strong you believe in Europe. But if you want the exposure or add to it, the note is a good play,” he said.

The notes are guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes will price on Aug. 31 and settle on Sept. 6.

The Cusip number is 48133LXT4.

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