Structured Note Sales Climb 48% Led by Interest-Rate Securities

Sales of structured notes in the U.S. rose 48 percent in August, led by a doubling of issuance of securities tied to interest rates, as investors look for alternatives to Treasuries paying close to historic lows.

Interest-rate securities accounted for $782.9 million of structured notes sold in August, or 23 percent of the total $3.46 billion, according to data compiled by Bloomberg. That compares with $325.8 million in July and was the highest percentage of the overall since August of 2011.

The Federal Reserve has said since January that it plans to hold its benchmark borrowing costs “exceptionally low” through at least late 2014, and four Fed presidents have come out in favor of an open-ended strategy for bond buying. With short-term rates being held between zero and 0.25 percent, investors bought $323.4 million of structured notes last month where coupons increase over the life of the security to as much as 9 percent.

“This is where structured notes can really add value, because if you look at traditional Treasuries or corporate bonds, you’re probably not going to get the yield that investors are looking for,” said Serge Troyanovsky, head of North American structured product sales at BNP Paribas SA in New York.

Royal Bank of Canada, General Electric Co. and Goldman Sachs Group Inc. had their largest offerings of the year in August and together sold more than one-quarter of all notes in the U.S. for the month. All three deals were either so-called callable step-ups, where coupons rise at set intervals, or fixed-to-floating notes tied to the London interbank offered rate, or Libor.

Goldman Sells Step-Ups

Goldman Sachs issued the biggest step-up last month, selling $105 million of 15-year bonds on Aug. 23. The notes yield 4 percent annually for the first six years, then rise four times to end at 8 percent for the last year, unless redeemed early, according to a prospectus filed with the U.S. Securities and Exchange Commission. The securities were distributed by Incapital LLC for a 3.34 percent commission.

RBC’s sale of $200 million of three-year, fixed-to-floating rate notes on Aug. 22 was the year’s largest deal tied to interest rates. The securities yield 0.935 percent interest for the first year, then pay 0.43 percent more than three-month Libor with a minimum yearly coupon of 0.55 percent, according to a prospectus filed with the SEC.

None of last month’s offerings were so-called steepener or flattener notes, which typically bet on changes in the yield curve for U.S. Treasuries. That signaled that investors were simply looking for more gains on their investments, instead of taking a position on how short- and long-term rates will move, said Guy Lebas, chief fixed-income strategist at Janney Montgomery Scott LLC in Philadelphia.

Record Low

The U.S. central bank has held its benchmark interest rate at zero to 0.25 percent since December 2008. The 10-year Treasury bond yielded 1.60 percent yesterday, up from its record low of 1.39 percent on July 24.

Fed presidents James Bullard, John Williams, Charles Evans and Eric Rosengren have endorsed open-ended bond buying to push down an unemployment rate that’s been above 8 percent for more than three years.

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 whose value is derived from stocks, bonds, commodities and currencies, or events such as changes in interest rates or the weather.

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