Scotiabank Sells Largest Step-Up Rate Security Since August 2012

Bank of Nova Scotia’s Scotiabank unit sold $100 million of three-year notes that ratchet up the coupon during the final year if not redeemed, the largest such U.S. offering since August 2012.

The securities, issued March 12, yield 0.8 percent annually for the first two years and then increase to a 2 percent annual coupon until maturity, according to a prospectus filed with the U.S. Securities and Exchange Commission. The bank can redeem the notes after two years.

While investors typically buy these kinds of securities, known as callable step-up notes, knowing they probably won’t get the later coupon, these notes are more likely to pay the higher rate, Guy LeBas, chief fixed-income strategist at Janney Montgomery Scott LLC in Philadelphia, said in a telephone interview.

“It’s a relatively modest step up,” he said. “For an investor, the bigger the step, the more that option is likely to be exercised and the bond goes away when you don’t want it.”

Buyers probably won’t receive the higher coupon if interest rates remain the same or fall during the term of the notes, according to the prospectus.

The step-up notes have dropped in popularity every year since at least 2010 as investors sought protection from the possibility of the Federal Reserve increasing its benchmark interest rate, according to data compiled by Bloomberg.

Slowing Sales

Sales of the step-up notes fell 65 percent to $1.29 billion last year from 2012, the slowest annual volume for the investments since 2010, according to data compiled by Bloomberg. During that time, banks sold $1.01 billion of notes that pay more when the gap between long- and short-term rates is greatest, more than four times the amount in 2012.

The Fed has kept its short-term benchmark rate no higher than 0.25 percent since 2008 and is forecast to maintain it there after the Federal Open Market Committee meeting that ends on March 19.

Joe Konecny, a spokesman for the Toronto-based bank, declined to comment.

Bloomberg began collecting comprehensive data on U.S. structured notes in 2010.

Goldman Sachs Group Inc. sold a larger offering of $105 million of 15-year callable step-up notes on Aug. 23, 2012, Bloomberg data show. The bank redeemed the notes on May 28, 2013.

Banks create structured notes by packaging debt with derivatives to offer customized bets to retail investors while earning fees and raising money. Derivatives are contracts with values derived from stocks, bonds, commodities and currencies, or events such as changes in interest rates or the weather.

To contact the reporter on this story: Kevin Dugan in New York at kdugan4@bloomberg.net

To contact the editors responsible for this story: Shannon D. Harrington at sharrington6@bloomberg.net Mitchell Martin, John Parry

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