Barclays links to four banks; product offers generous protection, but underlying volatility high, adviser says

By Kenneth Lim

Boston, Feb. 12 - Barclays Bank plc's planned reverse convertibles linked to a basket of bank stocks has a generous protection level but a highly volatile underlying, an investment adviser said.

"It looks like a double-edged sword to me," the adviser said.

Barclays plans to price 18% reverse convertibles due Aug. 27, 2009 linked to an equally weighted basket of four financial stocks.

The basket comprises common stocks of Bank of America Corp., Wells Fargo & Co., JPMorgan Chase & Co. and Goldman Sachs Group, Inc.

At maturity, investors will receive a number of shares of each component stock that finishes below its initial level and closes below 50% of its initial level during the life of the notes. Investors will receive 25% of par for each component stock that finishes at or above its initial level or never closes below 50% of its initial level during the life of the notes.

Straightforward structure

The Barclays product has a simple structure that should be easy to understand for investors who are familiar with structured products, the adviser said.

"It's very similar to a typical single-stock reverse convertible," the adviser said. "The difference is that this is a basket and you're linked to four stocks instead of one. Otherwise it's pretty easy to understand."

The adviser said the product appears to be similar to buying four reverse convertibles, each linked to one of the basket's component stocks.

"I suspect buying $4,000 of this is the same as buying a $1,000 reverse convertible linked to Bank of America, $1,000 in Wells Fargo, $1,000 in JPMorgan and $1,000 in Goldman Sachs," the adviser said. "You'll probably have different coupons and protection levels on each of them, but on average I would expect it to even out."

"This basket isn't like a normal basket where you look at the weighted average of the components and then look at the basket's performance," the adviser explained. "You're still looking at the performance of each individual stock. Let's assume three of those stocks go up by 25% and one goes down by 60%. If they're looking at the basket's consolidated performance, you still get back your principal in cash, but they're not, so you end up losing on your principal."

Low barrier but high risk

The product's protection level of 50% seems generous, the adviser said.

"If you think that the bank stocks are now depressed, and I think there's quite a good proportion of investors who think that, then 50% looks like pretty good protection," the adviser said.

But investors should take into account the sector's recent volatility, the adviser added.

"If you just look at recent volatility, that 50% doesn't mean very much," the adviser said. "But that's based on historical volatility, which may not be meaningful. But it does give you an indication of just how risky these stocks are at this moment. I think investors who are looking for yield, who are optimistic in the short term about these four stocks and they do not perceive this to be too risky, I think this could be attractive to them."

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