HSBC’s autocallable notes on three indexes offer hedge, but for bears, barrier won’t help

By Emma Trincal

New York, March 14 – HSBC USA Inc.’s 0% autocallable barrier notes with step-up premium due March 20, 2026 linked to the lesser performing of the Nasdaq-100 index, the Dow Jones industrial average and the Russell 2000 index give investors repeated opportunities to earn a double-digit return up until maturity when a barrier provides contingent protection. But risks lie in the choice of the underliers and a possible market downturn, advisers said.

The notes will be called at par plus a 12.64% annual call premium if each index closes at or above its initial level on any quarterly observation date starting on March 15, 2024, according to an FWP filing with the Securities and Exchange Commission.

If the notes are not called, the payout will be par unless any index has finished below its 70% barrier level, in which case investors will lose 1% for each 1% decline of the least-performing index from its initial level.

“Those three indices are all domestic, but you still have to watch the correlations. What if one moves the opposite direction? That’s the issue here,” said Tom Balcom, founder of 1650 Wealth Management.

Uncorrelated underliers add dispersion risk to a worst-of structure. The more dispersion between the underliers, the greater the chances of a negative return.

Balcom downplayed such risk because all indexes are U.S. equity benchmarks. He also said that he expects the market to recover within the three years prior to maturity.

“You’re very likely to be called. 12.64% is a nice premium,” he said.

Flexible allocation

For advisers, the main question is to best allocate the notes in the portfolio.

“This one really could go either way. I see it as fixed income replacement but also as an equity substitute,” he said.

“It can be used in your fixed-income bucket because of this 70% barrier. This is not full protection of course, but over three years, chances are you won’t be 30% lower than where we are now.”

Based on statistical series, he said that the chances for the market to be down more than 40% over three-year rolling periods was only 5%.

“I don’t have the numbers for a 30% decline. It’s going to me more. But my guess is that it’s going to be less than 10%,” he said.

Hedge

The notes could also be a “good fit” in the equity bucket of a portfolio, he said.

“If the market is range bound or delivers modest returns, you could easily outperform.

“There is always a risk of more selling pressure short term. But over three years, you’re going to see some changes in the market cycle and the business cycle. There’s enough time for a recovery.”

As with many structured notes, the benefit of the structure was the downside protection.

“You can use the barrier as a hedge, an equity hedge,” he said.

Given the nine call dates, investors may not even have to worry about the outcome at maturity, he said.

“You should get called at some point. This gives you a 12.64% return, which is a nice equity return,” he said.

“Whether you choose to allocate the notes to your fixed-income or equity portfolio, either place is fine.”

The wrong underlying

Another adviser had a less sanguine view.

“The biggest risk here is the Nasdaq. Even though it came down from its November high, it’s still the most overvalued benchmark of the three,” this adviser said.

“By March 2026, the market will have already recovered. But we’ll see more drops in between. And the question is how much do we go down from now and how much do we rebound from the low?”

Bubble

This adviser looked at the Invesco QQQ Trust Series 1 as a proxy for the performance of the Nasdaq-100 index, which it replicates.

“QQQ peaked in November above 400. If you go back in history and take a look at the Nasdaq between 2000 and 2002, you have a drop of nearly 84%. QQQ has dropped already but not as much as it did in 2000-02.”

He expects to see a market decline of a similar magnitude because the same factors, which led to the burst of the dot.com bubble are still at play, he said.

“We’re coming out of a long bull market, in fact the longest in history, and the Nasdaq is extremely overvalued. If I’m right, then breaching the barrier would be a walk in the park. QQQ would have to almost triple in order to rebound by the time the notes mature.

“Of course, it’s a guess,” he said.

But for this adviser, the bear market, which began in January 2022 for the S&P 500 and November 2021 for the Nasdaq, is likely to last longer than average, which reduces the time the market may have to recover.

“I don’t see how this 70% barrier can really protect your principal in that three-year period.

“The problem with this note is that you have the Nasdaq-100 in there,” he said.

No call

The chances of getting called were also limited.

“We are already trading down. So, I don’t think there is a high probability of getting called,” he said.

The one-year no-call feature was not going to help, he said.

“If anything, it’s more unlikely that you’ll get called because a year from now, the Nasdaq will be substantially lower than it is today.

HSBC Securities (USA) Inc. is the agent.

The notes will price on March 15 and settle on March 20.

The Cusip number is 40441XZ94.

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