GS Finance’s notes tied to Stoxx show absolute return, high cap but barrier is thin

By Emma Trincal

New York, Nov. 29 – GS Finance Corp. plans to price 0% index-linked notes due Dec. 18, 2019 tied to the Euro Stoxx 50 index, according to a 424B2 filing with the Securities and Exchange Commission.

The notes are guaranteed by Goldman Sachs Group, Inc.

If the index return is zero or positive, the payout at maturity will be par plus the return, capped at par plus 15%.

If the index return is negative but equal to or greater than 82.2% of the initial level, the payout will be par plus the absolute value of the return of the index.

Otherwise, investors will be fully exposed to the decline of the index from its initial level.

Bullish play

Despite the lack of upside leverage, advisers said they were comfortable gaining enough if the index rose due to the attractive double-digit cap level.

For a bullish investor, the high cap may offset some of the negative impact of having no enhanced return.

“You look at the underlying... the Euro Stoxx...15% in one year...nobody is going to complain about it,” said Steve Doucette, financial adviser at Proctor Financial.

“If you’re comfortable with Europe, if you think it has a chance to catch up with U.S. markets because at least it’s not as volatile, you don’t have those tech stocks bouncing around giving you a flat performance, then you’re looking at this as a decent product.”

Thin barrier

What proved more difficult to accept was the size of the contingent protection.

“It’s great to be able to make up to 18% in positive return if the market is down. The question is how much can this index drop?

“Any bear market is going to take you down more than 18% by definition. And then, how long does it last? When does it begin? It’s all about timing, as always. And over one year, you don’t have much room for errors.”

A bear market is a decline of 20% or more from a previous high.

The average length of a bear market is 1.4 years, according to First Trust Portfolios LP. The figure is based on the historical performance of the S&P 500 index since 1926. The average cumulative loss over this period is 41%.

“The absolute return component is great, but this barrier is too easy to breach.

“If we’re going to get into a bear market, I don’t think it’s going to provide any support.”

Risky bet

Matt Medeiros, president and chief executive officer of the Institute for Wealth Management, also focused on the downside and the potential for losses despite the absolute return feature.

“I see this note as a gamble from my perspective,” he said.

“I still see a lot of risk in the eurozone.

“I would be more comfortable with a strategy similar to this if it had a longer tenor, in the three- to five-year range.”

Among some of the most obvious risks, he cited the difficult negotiations around Brexit as the U.K. is supposed to leave the European Union in March.

“Europe is facing some headwinds both economically and politically, which gives me pause over the 12 months of this note.”

The potential return on the upside was not an issue.

“The cap is fine,” he said.

“I just see more risk in Europe right now. I would be concerned with the downside. It’s an 82% barrier and I think this index could drop below that.”

Goldman Sachs & Co. is the underwriter with JPMorgan as placement agent.

The notes will price on Friday.

The Cusip number is 40056EJG4.

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