HSBC’s dual directional leveraged note on EAFE ETF, Stoxx seen as timely as market rises

By Emma Trincal

New York, Dec. 18 – HSBC USA Inc.’s 0% dual directional barrier notes due Dec. 30, 2022 linked to the lesser performing of the iShares MSCI EAFE exchange-traded fund and the Euro Stoxx 50 index may come at a good time as advisers are reallocating some of their assets into less expensive international stocks, sources said.

Uncapped, 1.75x

If the final level of each underlying is greater than its initial level, the payout at maturity will be par plus at least 175% of the lesser-performing underlying’s return, according to an FWP filing with the Securities and Exchange Commission. The exact upside participation rate will be set at pricing.

If the final level of either underlying is less than or equal to its initial level but neither underlying finishes below its trigger value, 75% of its initial level, the payout will be par plus the absolute value of the lesser-performing underlying’s return.

If either underlying finishes below its trigger value, investors will lose 1% for every 1% that the lesser-performing underlying declines from its initial level.

High correlation

“It’s a very attractive note because you get substantial leverage on two things that have a very high correlation,” a financial adviser said.

The iShares MSCI EAFE ETF overlaps with the euro zone. Stocks of euro zone-based companies make for 43% of the EAFE portfolio. The developed market index has a 60% weighting in the broader European market, when taking into account the U.K., its second country holding after Japan.

“Yes, you’re giving up about 3% in yield but you’re getting 1.75x in leverage,” this adviser said.

“We do like the fact that you have a fair amount of leverage and there is no cap.”

Back in favor

This adviser is bullish on non-U.S. equity.

“We think many opportunities can be found in international markets,” he said.

“Valuations are more compelling than on the domestic ones.”

The Euro Stoxx 50 index was down 15% last year but has strongly rebounded this year, up 21.8% even if it’s still lagging the S&P 500 index, which rose 27.3% so far this year.

“We’ve seen a pick up in the Euro Stoxx in the last half of 2019. There are many reasons to be bullish on international markets and Europe, in particular with a trade deal,” he said.

For all bulls

The payout on the upside allowed for gains in various types of bull markets, from moderate to robust, he added.

“If the rally is significant you can participate with unlimited gains,” he said.

“If we have a modest return, you’re still going to get 1.75x, which hopefully will take care of the dividends you’re giving up.”

This adviser also liked the 75% barrier on the downside with the absolute return.

“It’s unlikely that the market would drop more than 25% in three years,” he said.

“And if it’s down without breaching the barrier, you get the absolute return.”

This feature added more than a defensive edge to the portfolio without costing too much in upside potential.

Growth expectations

A market participant offered a similar view: the note was timely as investors are becoming increasingly bullish on Europe.

“We’re seeing a renewed interest in Europe whether it is the Stoxx Europe 600 or the Euro Stoxx 50 as this market is heading to a potential breakout phase,” he said.

The Euro Stoxx hit a 52-week high on Monday.

“People haven’t been very bullish on Europe for a while. The performance of this market was disappointing last year,” he noted.

“But the fundamentals are improving.

“Now investors want to capture the growth in this market.

“They’re moving away from income strategies as they’re turning more bullish. They want structures that allow them to participate in the rally.

“There’s a shift going on. People are definitely moving into the asset class expecting above average returns.”

HSBC Securities (USA) Inc. is the underwriter.

The notes will price on Friday.

The Cusip number is 40435UQ23.

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