Goldman Sachs’ $75 million notes linked to Topix top series for year so far, provide access

By Emma Trincal

New York, Aug. 12 – Goldman Sachs Group, Inc.’s $75 million of 0% notes due Nov. 13, 2015 linked to the Topix index offer exposure to a foreign equity index that U.S. investors have a hard time gaining access to, sources said. The agent repeats this deal nearly every month, and this was the largest issue of the series so far this year.

The issue price was 99.93% of par, according to a 424B2 filing with the Securities and Exchange Commission.

The payout at maturity will be par plus the index return with full downside risk exposure.

Nearly monthly

It was the seventh Topix-linked delta-one deal to be brought to market this year by Goldman Sachs.

The firm priced two offerings in January for $20.5 million and $2.38 million. After that, Goldman has priced a deal each month except in April and June, according to data compiled by Prospect News.

The second largest pricing after last week’s issue was sold in May for $50 million.

The Goldman Sachs’ Topix-linked notes are short in term, usually between three and four months. The structure offers the exact return of the Japanese index, similar to a tracker.

“It’s for someone looking for pure exposure to Japanese large-cap stocks,” a market participant said, commenting on the frequency of the deal.

“It explains the use of a structured note. You can issue it quickly. It’s very cost-efficient. Structured notes are the cheapest in terms of legal costs. An ETN or a UIT would be much more expensive. It makes a repeat deal economically feasible.”

The fee was 0.29%, according to the prospectus.

Hidden Topix

Exposure to the Topix index is not easy to get for U.S. investors, sources said, even via the typical exchange-traded fund or exchange-traded note.

“It is most likely institutional. It is an access vehicle allowing the customer to have direct exposure to the Topix,” said Joseph Halpern, chief executive officer of Exceed Investments.

The Topix, or Tokyo Price Index, is a capitalization-weighted index of all the domestic common stocks listed on the First Section of the Tokyo Stock Exchange, according to the prospectus.

Stocks listed on the First Section, which number roughly 1,700, are among the most actively traded stocks on the Tokyo Stock Exchange.

One of the main factors behind the size and frequency of Goldman’s deals is ease of access, sources said.

“The Topix index only gives exposure to the large-cap stocks of the Tokyo Stock Exchange. For U.S. retail investors, there are no ETFs or ETNs that track this index directly,” a broker said.

“Nomura Asset Management has one that replicates the Topix. But it trades in Japan.

“There is one well-known ETF here in the U.S., the iShares. But again, it doesn’t give you access to the Topix itself.”

He was referring to the iShares Japan Large-Cap ETF, which trades on the NYSE Arca under the ticker symbol “ITF.”

The iShares ETF tracks the S&P/Topix 150 index. This index selects securities considered highly liquid in each of the major sectors of the Tokyo market, according to Standard & Poor’s.

“There is a little bit of discretion on the part of S&P to select the stocks seen as the most liquid. It’s not like the SPDR S&P 500 ETF, which is supposed to mirror the S&P 500 index. This one doesn’t mirror the Topix,” the broker said.

In addition, the iShares Japan Large-Cap ETF will no longer be tracking the S&P/Topix index starting Sept. 4 but will seek to replicate instead the JPX-Nikkei Index 400. The fund will be renamed as the iShares JPX-Nikkei 400 ETF, according to an iShares Trust prospectus.

FX hedge

Another driver for investors who bought the notes could be to remove exposure to currency risk.

The return on the notes is simply the percentage increase or decrease in the final index level, the prospectus said.

“It differs from similar access vehicles, for example ETFs, due to the fact that the return at the end of term is mathematically defined and guaranteed as opposed to a fund where it is targeted and relies more on FX hedging among other considerations,” Halpern said.

“Investors do get the return of the Topix independently of the fluctuations of the dollar versus the yen.”

A source pointed to currency-hedged Japanese stock ETFs, such as the WisdomTree Japan Hedged ETF.

This fund, however, does not track the Topix either. Instead it measures the performance of dividend-paying Japanese companies.

More to the point, funds that seek to neutralize exposure to currency risk are far from perfect, this source said.

“It’s not guaranteed. People need to do all sorts of trades to provide the hedge. Here Goldman guarantees it. If the Topix gains 10% in Japanese denomination, you get 10%.

“So it’s not just getting access to a bunch of stocks. You’re getting a hedge against currency risk, which makes it for a more sophisticated kind of access vehicle.”

On an annualized basis, the fee is 1.16%.

Sources were hesitant to guess who the investors buying the notes may be.

“I don’t really know if it’s cheap or not. I can’t really tell,” the industry source said.

“It’s probably bought for a fee-based account,” the market participant noted. “It could be an institutional account or for advisers who would buy it for their clients. It looks relatively inexpensive. Since advisers already charge a fee for the assets they have under management, they always look for cost-efficient instruments for their clients.”

Goldman Sachs & Co. was the underwriter.

The notes (Cusip: 362273BJ2) priced on Aug. 7.

The issuer was GS Finance Corp.

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