Scotiabank’s $26.28 million digital notes on Euro Stoxx Banks index seen as appealing

By Emma Trincal

New York, Aug. 11 – Bank of Nova Scotia’s $26.28 million of 0% digital notes due Nov. 8, 2022 linked to the Euro Stoxx Banks index should appeal to many investors seeking exposure to the financial sector except those with an aggressively bullish outlook on European bank stocks and those who want to stick to U.S. assets.

If the index finishes at or above its 90% threshold level, the payout at maturity will be par plus a fixed return of 15.42%, according to a 424B2 filing with the Securities and Exchange Commission.

Otherwise, investors will lose 1.1111% for each 1% decline beyond the 10% buffer.

So what?

“It sounds almost too good to be true,” said Dick Bove, chief financial strategist at Odeon Capital Group.

“If you can collect 15.4% on a security after 15 months even if the index drops 10%, it seems like an awfully attractive deal.”

Investors in structured notes do not receive dividend payments. The underlying index pays a 1.44% dividend yield, according to the French ETF sponsor Lyxor. As a result, the “opportunity cost” over the 15-month tenor is less than 2%.

“So, what? You’re losing 2%... Even if the dividend yield was 4%, who cares? You’re getting more than 15%. The fact that you don’t get the dividends is immaterial,” said Bove.

The index has 21 components. BNP Paribas, Banco Santander and ING Group are the top three holdings.

“The only way you lose is if the price goes down more than 10%,” said Bove.

“I don’t see that happening, and even if it does, you still have the buffer.

Another scenario is if the index finishes higher than the 15.42% digital return at maturity.

Over the last 15 months, the index has jumped 86.7%.

“So what? You just can’t be too bullish. Most investors would be happy with 15.42% in 15 months. It’s almost irrelevant,” he said.

Neutral

Bove was not sure why the bank would expose itself to what appeared to be a risky bet having to pay more than the index return any time the index performance falls within a minus 10% to plus 15.42% range.

“The issuer of the notes presumably assumes that inflation is going to increase driving interest rates higher,” he said.

“That’s my personal view too. Nominal interest rates in Europe are going to go from negative to positive in the next 15 months.

“That means banks will finally start collecting high interest rates and bank stocks will go up.

“If that’s the issuer’s view, I think they’re right. But banks are not supposed to take risks.”

Bove however said that the structure was probably hedged as are all structured products.

“I suppose they can short the index and put themselves in a neutral position. The profit in that case comes from the fees, not the trade, but it’s not entirely clear to me why they would do that.

“What’s clear however is that investors get a pretty good deal.”

Financial exposure

A market participant looking at the notes said the Euro Stoxx Banks index “comes and goes” as an underlying.

“We occasionally see deals on it. I’ve seen more recently,” he said.

“It gives better pricing than the XLF for those seeking financial exposure.”

He was referring to the Financial Select Sector SPDR, one of the main financial ETFs in the United States, which trades under the ticker “XLF.”

Bullet

“It’s very short-term. If you don’t like calls and reinvestment risk, this is a straight bullet note that’s going to pay a better return than an autocall because the issuer doesn’t have to pay you until a later date.”

The deal however may not appeal to all investors.

“If you’re bullish you probably won’t do this. You’ll go for an enhanced return.

“If you need income, that’s also not the right way to go obviously,” he said.

The note was more of a non-directional play.

“As always it has to fit your market outlook.”

Scotia Capital (USA) Inc. is the agent. Goldman Sachs & Co. LLC is the dealer.

The notes settled on Monday.

The Cusip number is 0641594Q6.

The fee is 1.06%.

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