Will AMJ Be The Next TVIX?
Thursday, June 21, 2012
WALL STREET JOURNAL
Last Thursday J.P. Morgan announced it would stop issuing new notes from its popular JPMorgan Alerian MLP Index ETN — aka AMJ — once AMJ hit 129 million notes outstanding. Questions are now swirling whether this will turn in a replay of the chaos that surrounded the Credit-Suisse backed ETN TVIX back in March.
On June 14, the day of the AMJ announcement by J.P. Morgan, there were 117,950,000 notes outstanding. By June 19, the remaining 11,050,000 were snapped up and the door was closed.
That the 11 million plus shares were grabbed almost immediately is notable. Over the course of this year, issuance of AMJ notes has steadily increased, but generally in increments of a million or so shares over the course of a week.
Traders say the rush of buying of AMJ notes could have come from a market maker or speculative players betting that AMJ will soon start to trade at a hefty premium. In that scenario, grabbing a big slug of shares could be a profitable trade.
So far, however, there hasn’t been much of a price response. As of this afternoon, AMJ, which has assets of $4.7 billion, was trading only a touch above its net asset value.
“There’s nothing dramatic yet — with an emphasis on the ‘yet,’” says Chris Hempstead, director of ETF execution services at WallachBeth Capital.
What will happen next depends on the degree to which investors keep buying AMJ despite the lack of new note issuance.
One factor that could come into play is AMJ’s investor base. One key difference between AMJ and TVIX – formally known as the VelocityShares 2x Long VIX Short Term exchange traded note – is that AMJ’s investor base is largely retail. It tracks master limited partnerships — MLP’s for short — which are hugely popular among retirees because of their hefty income payouts. TVIX, while it had its fair share of individual investors among its holders, is arguably more the domain of fast-trading speculators making bets on the VIX index which tracks S&P 500 volatility.
One potential scenario for AMJ is that individual investors, unaware that the tap has been shut on new AMJ notes, continue to buy. That would lead to a gradual, but steady increase in the premium.
Steve Williams, exchange traded products strategist at Rosenblatt Securities, says one possible play for speculators is to grab shares of AMJ and then loan them back out to short-sellers. Assuming that retail investors continue to buy and the shares become increasingly scarce for short-sellers to borrow, lenders could start charging short sellers, who need to borrow higher rates. At some point, if shares are scarce enough in the lending market, a speculator could then call back the shares that had been lent. That in turn could force a short-covering squeeze that would drive AMJ’s price and/or premium still higher.
Of course, this appeared to have been part of the scenario that drove TVIX shares to an eye-popping premium of about 90% after Credit Suisse abruptly halted new issuance in February. Then, in trading that has raised more than a few eyebrows, TVIX’s share price began to collapse on March 22 just hours before Credit Suisse suddenly started issuing new notes. Ultimately TVIX’s share price fell roughly 60% in three days.
J.P. Morgan, for its part, isn’t saying publicly why it halted new issuance of AMJ. The prospectus is silent on whether the bank would restart issuing notes in the future. The J.P. Morgan website for AMJ does have this warning, however:
“Investors that pay a premium for the ETNs could incur significant losses if that investor sells its ETNs at a time when some or all of the premium is no longer present.”
In other words, buyer, beware.
UPDATE: While the folks at J.P. Morgan aren’t saying publicly why they capped AMJ shares, they are willing to say what the reason wasn’t. Morningstar this week published a note saying they believed the decision was related to the widely-publicized losses in the bank’s chief investment office in London. That, says J.P. Morgan, is “wrong.”
“Our decision to cap the issuance of the Alerian MLP Index ETN is unrelated to recent losses in a portfolio held by the chief investment office,” a J.P. Morgan spokeswoman said.