Morgan Stanley has rolled out a new ETN that combines access to large cap U.S. equities with exposure to a futures-based investment in crude oil. The new S&P 500 Crude Oil Linked ETN (BARL) will offer returns of the S&P 500 Oil Hedged Index. That benchmark provides exposure to the S&P 500 Total Return Index along with positions in short-term NYMEX Crude Oil and ICE Brent Crude Oil futures contracts.
BARL is essentially a combination of the S&P 500 SPDR (SPY), United States Oil Fund (USO), and United States Brent Oil Fund (BNO), all rolled up into one. It’s important to note that BARL provides equal exposure to both stocks and commodities; a $100 investment in BARL provides both $100 worth of exposure to the S&P 500 and $50 worth of exposure to both Brent and WTI futures contracts. So if the S&P 500 gained 10% and each oil position gained 10% between rebalancing periods, BARL could be expected to add 20% (the underlying index will rebalance on a monthly basis). Conversely, if the S&P 500 dropped by 20% during the month and crude oil futures lost 20%, the value of the note would drop by 40%.
“We are pleased to provide this new ETN offering to clients,” said Nikki Tippins, Head of Equity Derivatives Sales for the Americas at Morgan Stanley. “An investment in Morgan Stanley S&P 500 Crude Oil Linked ETNs combines the returns of crude oil futures and large-cap U.S. equities in a single exchange-traded security.”
BARL could potentially have appeal as an alternative tool for establishing exposure to large cap equities among investors expecting oil prices to climb steadily higher. Though investors with a bullish outlook on crude prices should note that BARL’s oil-linked component refers not to changes in spot prices but to a futures-based strategy revolving around near-term contracts. Contango in futures markets can cause significant gaps between the hypothetical return on spot oil and the actual performance realized through a futures-based strategy [Commodity ETFs: It Takes Two To Contango].
BARL could also be used as a more tactical tool: a shorter-term alternative to large cap U.S. equity exposure during stretches when oil prices are expected to show strength. Though investors should take note that BARL effectively offers leveraged exposure; each $1 invested essentially buys $2 worth of exposure: $1 in the S&P 500, $0.50 in WTI futures, and $0.50 in Brent futures. If U.S. stocks and oil prices move in the same direction, that can result in increased volatility in either direction.
The inclusion of both WTI and Brent Crude contracts is an interesting feature. WTI has historically been the primary global benchmark, and WTI has generally traded at a premium to Brent (which is used more widely in Europe). But thanks to discrepant supply and demand conditions, the premium has flipped to a discount in recent months. Most analysts expected the inversion to be short-lived but Brent has continually traded higher than WTI, raising some questions about the future of the WTI contract as a widely-followed benchmark for oil prices [Three Forgotten ETFs To Play Oil].
The structure of BARL may result in a risk/return profile that is vastly different from a simple equity-only ETF focusing on large cap stocks. The underlying index beat the S&P 500 Index by a huge margin over the last year thanks in part to the huge run-up in Brent futures contracts. But over the last five years, the oil/equity hybrid index has trailed the S&P by a huge margin:
|1 Year||5 Year||10 Year|
|S&P 500 Oil Hedged Index||66%||-34%||98%|
|S&P 500 Total Return Index||25%||14%||26%|
|WTI Front Month Futures||20%||-39%||54%|
|Brent Front Month Futures||53%||-16%||129%|
|Source: morganstanley.com. Data as of 6/1/2011|
BARL Joins Hedged Gold ETN
BARL is the second ETN in the Morgan Stanley lineup; in March the company launched its Cushing MLP High Income Index ETN (MLPY). That exchange-traded note is linked to an index that consists of 30 publicly-traded MLPs with an emphasis on current yield. MLPY currently has about $20 million in assets.
UBS has offered an ETN that similarly combines equity exposure with a commodity hedge; the E-TRACS S&P 500 Gold Hedged ETN (SPGH) is linked to an index that delivers returns resulting from investments in the S&P 500 and near-term COMEX gold futures.