As investors turn their attention to rising interest rates, Deutsche Bank and BNP Paribas have separately come up with a novel way to punt on rates rising more slowly than the forward market is predicting. The notes are structured as a standard leveraged inverse-floating rate note, but the derivatives houses have added a call which means the issuer can buy back the note. The investor is compensated for the call via a higher yield, said Patrik Sandin, head of interest rate structuring at BNP Paribas in London
The callable feature is the innovation in this product, according to Sandin. Making such a product callable has been the challenge, he noted. Each year's coupon is based both on the previous year's coupon and six-month Euribor. This forward and backward looking feature is difficult to model and price, noted Sandin.
Rashid Zuberi, co-head of interest rate derivative structuring at Deutsche Bank in London, said in a typical product the investor receives a 7% coupon in the first year and then the same coupon plus 250 basis points less six-month Euribor in the second year. This ratchets up every year. At maturity, in this case seven years, the coupon is the last year's coupon plus 500bps less six-month Euribor. If the formula works out as a negative number the investor is not on the hook to pay Deutsche Bank, noted Zuberi.
Both BNP Paribas and Deutsche Bank are currently issuing these notes in U.S. dollars and euros. Deutsche Bank is looking at issuing these notes in Scandinavian and emerging market currencies, noted Zuberi. BNP Paribas is thinking of offering them in Danish kroner, said Sandin.
Deutsche Bank is dubbing the product the Leverage Inverse Floater or LIFT. BNP Paribas has named it the Callable Ratchet Inverse Floater.
