Credit Suisse's $4 million notes on iShares MSCI Brazil for bulls seeing short-term correction

By Emma Trincal

New York, June 15 - Credit Suisse AG, Nassau Branch's $4 million of 0% Buffered Accelerated Return Equity Securities tied to the iShares MSCI Brazil index fund offer investors a way to take a bullish stance on Brazilian stocks while getting protection in anticipation of a correction many believe is due soon, sources said.

The notes are due July 15, 2013, according to a 424B2 filing with the Securities and Exchange Commission.

The payout at maturity will be par plus 2.3 times any fund gain, up to a maximum return of 69%.

Investors will receive par if the fund's share price falls by up to 20% and will be exposed to losses beyond 20%.

Several sources said the three-year term may be favorable for the investor entering the Brazilian equity market now, although the lack of liquidity of the notes may be an issue for some.

Good cap

"It sounds like a decent deal. There is a lot of volatility, so there are gains potentials for a three-year note," said Steve Doucette, vice president at Proctor Financial.

"At least if there's a correction, there's enough time for the market to rebound. If you're looking for some beta, that's where you're gonna get it."

Doucette also said that "the cap is good," adding that it was much better than "what everyone else is doing."

Caps for three-year leveraged notes range between 20% and 50% depending on the underlying and the leverage factor, according to data compiled by Prospect News.

'Best of the BRICs'

The notes are for investors bullish on Brazil over a three-year period but cautious about the risk of a selloff in the short term, a view shared by many bulls, sources said. However, some see the cap as too high a price for the protection granted by the structure through its 20% buffer.

For instance, Ferenc Sanderson, chief operating officer with hedge fund Cranwood Capital Management, said that he was not comfortable with the cap.

"Brazil is probably the best of the BRICs countries," he said, referring to the acronym that designates Brazil, Russia, India and China.

"It doesn't have too much political risk like in Russia. It doesn't have an overemphasis on real estate like China. It has vibrant consumers, as its domestic demand is exploding. Its public debt burden is much less than many other countries. And of course they have commodities," Sanderson said.

"If you believe this is a pretty good story, then it makes sense, although I would play it differently," he said.

Limiting defense

Sanderson said that instead of limiting his returns for the protection, he would design his own portfolio in order to get some partial protection. His idea was to split the allocation between the iShares fund and some Brazilian bonds.

"Take the bonds and pick up perhaps a 5% or 6% yield plus the currency exposure of the currency against the dollar. The bonds give you the protection. And if the market rebounds, your returns are not capped. That's how I would do it," he said.

"I wouldn't play Brazil overly defensively. You certainly get a good protection with the notes. But most investors go into emerging markets for the beta," he said.

Thin trading

Doucette said that the lack of liquidity could pose a problem for an investor seeking to wind up his position if the market correction happened to be greater than anticipated.

The prospectus warned in its risk section that even if there is a secondary market, liquidity might be insufficient to allow investors to trade or sell the securities when they wish to do so.

"My concern is the lack of liquidity," Doucette said. "What happens in three years is hard to tell. Technically these [structured] products are not liquid even if we, as a shop, have managed to sell some on the secondary market."

Short-term puts

The iShares MSCI Brazil index fund is currently priced for a correction, said Ryan Detrick, senior equity analyst at Schaeffer's Investment Research.

"The money flow is negative short term with a lot of bearishness around that particular security," he said. "There's a significant put open interest short term."

Detrick said that his focus was on the "front three months" and that the put-to-call ratio was now 1.5.

"That's 1.5 put for each call. We've seen that bearish trend for about a year," he said.

With a 69% cap on a three-year term and a 2.3 times leverage factor, investors need only a 30% gain in the underlying shares over the term in order to maximize their returns.

"The shares are at $65. So it would take an $85 strike," he said.

An options market participant explained that when an investor buys a structured note capping returns at $130 from an original price of $100, "he is selling a call at a $30 strike to the issuer."

"The investor makes money below the strike. After that, he doesn't," he said.

Right tenor

Some analysts said that the bearish pressure is in the short term but that in the long term, bulls have a greater chance to make money.

The exchange-traded fund is down almost 12% so far this year and down a third from its peak of nearly $100 in May 2008.

On the other hand, shares have strongly rallied since their bottom at the end of 2008, noted Paul Dietrich, chairman and chief executive officer of Foxhall Capital Management and who is bullish on Brazil long-term and bearish short-term.

"My three-year outlook for Brazil is very bullish," Dietrich said.

"Over the next three years, it's a very strong bullish play. Three-year is a good timeframe because a correction is due short-term. The Brazil ETF has been moving up too much too fast. The stock and index have gone way out of synch with the underlying economy. We'll see a retrenchment probably this year with a possible decline of 5%," he predicted.

"Short-term markets do all sorts of weird things. You want to focus on the long term. Investors will make money because the economy is making money," he said.

It's the economy

Dietrich said that the analysts consensus for annual gross domestic product over that timeframe is approximately 2% to 3% for the United States, zero for Europe and between 7% and 8% for Brazil.

"The Brazilian economy is very strong. I like their commodities, especially their agriculture because they export to an enormous market in China," he noted.

Dietrich said that investors need to ask themselves whether they are willing tolerate the cap for more protection when they choose between the notes and a direct investment in the iShares ETF.

"You need to ask yourself if you believe the ETF will go up by more than the cap or not. I am long the iShares, so you have my answer. But for someone who is not that bullish and who wants the protection, the choice might be different," he said.

Credit Suisse Securities (USA) LLC is the underwriter.

There are no fees.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.