HSBC to introduce iShares Global Clean Energy underlying ETF in pure leveraged play

By Emma Trincal

New York, Jan. 14 – HSBC USA Inc.’s upcoming 0% Accelerated Return Notes due March 2022 linked to the iShares Global Clean Energy exchange-traded fund offer targeted exposure to a widely popular sector, one that has shown explosive growth, sources said.

The payout at maturity will be par of $10 plus three times any gain in the ETF, subject to a maximum return of 28% to 32%, according to an FWP filing with the Securities and Exchange Commission. The exact cap will be set at pricing.

Investors will be fully exposed to any ETF decline.

It is the first time this ETF is used in a structured product, according to data compiled by Prospect News, which tracks registered structured notes since 2004.

Composed of solar, wind and other renewable energy stocks, the fund is diversified across several sectors, including industrials, technology and utilities.

Rising demand

“Solar stocks went through the roof,” said Steve Doucette, financial adviser at Proctor Financial.

“Demand is high for solar panels because you get all sorts of credits from the Federal government and the states. If you install a solar panel in your house, you may end up paying only two-thirds of the full price.

“Costs are coming down. The payback is more favorable for homeowners.”

Another reason for the demand is the popularity of responsible investing, an investment style taking into consideration environmental, social and governance (ESG) criteria.

“Clean energy is sold as a bill of good to get zero emissions. More and more investors and institutions allocate to ESG funds and stocks. So, you benefit from the positive momentum as well,” he said.

Demand for renewable energy has led companies to invest billions of dollars in the sector, he said, pointing to utilities.

“If all utilities convert, that’s where demand is going to be.

“It’s a very big trend.

“You may want to ask yourself: are we a little bit in a bubble at this point?”

Meteoric gains

Launched in 2008, the iShares Global Clean Energy ETF provides access to clean energy stocks from around the world.

The fund surged a whopping 240% last year.

“This type of note is interesting right now. It’s a very opportunistic play at this time,” said Matt Medeiros, president and chief executive of the Institute for Wealth Management.

“With the new regime coming into power in the White House, there will be more focus on clean energy.

“Over the past few years, sustainable funds have actually performed very well.”

Since its low of March up until a recent high last week, the share price of the iShares Global Clean Energy ETF has more than quadrupled.

Steven Jon Kaplan, founder and portfolio manager of True Contrarian Investments, sees cause for concern.

Crowded bet

“In the past I have owned the Invesco Solar ETF, a fund of solar energy companies, which behaves similarly to this one. Environmentally friendly energy is now one of several bubble sectors which will likely drop by a huge percentage and therefore I would stay as far away as possible from this,” he said.

“Most investors chase after recent sharp gains, which is a terrible strategy.

“ESG investing has become incredibly trendy, and when combined with already-rare bubbles which might occur once per century, we have valuations which might not be seen again for 200 or 300 years.”

One of Kaplan’s main principles of investing is to “never panic at the bottom,” but just as importantly, he recommends to “never pile in at the top.”

Mildly bullish

A midpoint cap of 30% over the 14-month term generates a 25.2% compounded annualized return, which can be achieved if the fund is up by only 8.5% per annum.

“30% or 25% a year is a pretty high cap,” said Doucette.

“Obviously, you’re bullish but you’re not sure if it’s going to continue to rise that much, so you’re looking to put leverage on it.”

Investors who might expect even higher returns than the cap should consider splitting their allocation, said Medeiros.

“If you’re fully bullish you could diversify your bet, part of it in the note, the other part in the ETF,” he said.

Leverage

The real drawback of the notes is the full downside exposure, said Doucette.

“After this huge run-up, the price will continue to rise but slowly. So, I want leverage and I’m going to accept the cap. That’s the rationale behind this note,” he said.

“The only thing is there’s no downside protection.

“As much as you believe in this trend, obviously you need to do your due diligence in the underlying. I’m not an expert in the sector, but when I buy a note, I need to be able to outperform in both directions.

“Will this momentum continue or are we going to see a pullback this year as many expect?

“If we do have a pullback, I can’t imagine it would be an exempt asset class.”

Term, protection

Extending the maturity to three or four years may be helpful in this toppish market, he noted.

“It’s an interesting sector to look at especially with the Democrats coming in. These kinds of investments should benefit from the new political environment over the next three or four years,” he said.

But again, current valuations should give anyone pause. For Doucette, the priority should be in mitigating the risk.

“If I was ready to commit to this asset class, I’d be giving up some leverage to put some downside protection in there,” he said.

The pricing of the protection might be challenging, especially on a short tenor, he said.

“Buffers are expensive especially short term. And barriers are not giving you any guarantee. If you blow through it, you’re done.”

Medeiros may use another vehicle to play the sector.

“We’re in a phase in the market where many asset classes are overvalued, this one included.

“I’m very bullish on the sector long term.

“But obviously the main reason you buy a note is to have some kind of protection. I would buy the ETF directly. It would give me the liquidity to sell if I need to. It’s a way to minimize my risk.”

BofA Securities, Inc. is the agent.

The notes will price in January and settle in February.

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