Reverse Convertible on the 10-year USD Swap Rate

Long-term USD interest rates are around their all-time lows after their big drop this year. This is primarily due to concerns that the coronavirus will disrupt global supply chains and bring the global economy to a standstill.

 

However, we expect long-term US interest rates to move higher over time, even if they remain volatile in the short term. Our constructive outlook on global growth in general and long-term interest rates in particular is based on the notion that the impact of the coronavirus on the global economy is a one-time event, and not the new normal. Further, the fact that central banks are pursuing loose monetary policies and governments are willing to provide massive fiscal support, as China is amply illustrating, will help ultimately to prolong the current growth cycle.

 

In this environment, the 9-month reverse convertible in subscription offers a 6% p.a. coupon in CHF with a decent margin of safety. The product's strike level is at 55%, which is equivalent to a 10Y USD Constant Maturity Swap Rate (the underlying) of 0.72% p.a. This is well below its lowest level ever and also below the market's implied expectation of 1.19% p.a. for November 2020 (vs. current 1.30% p.a.).