GS’s $3 million notes on S&P, Dow Select Dividend seen as bearish, posing risk to the upside

By Emma Trincal

New York, May 23 – GS Finance Corp.’s $3 million of 0% index-linked notes due May 21, 2024 linked to the least performing of the S&P 500 index and the Dow Jones U.S. Select Dividend index are designed for bearish investors seeking to outperform in a down market, sources said.

If the return of each index is zero or positive, the payout at maturity will be par plus the return of the least performing index, subject to a maximum payout of par plus 24.25%, according to a 424B2 filing with the Securities and Exchange Commission.

If the least performing index falls by up to 20%, the payout will be par plus the absolute value of the worst performer’s return.

Otherwise, investors will be fully exposed to any losses of the worst performing index beyond 20%.

“The 1.5% fee is quite high on a two-year note. We have a problem with the fee. But we don’t have any issue with Goldman’s credit,” said Steven Foldes, wealth manager and founder of Evensky & Katz / Foldes Financial Wealth Management, commenting on the fee amount disclosed in the prospectus.

Bearish play

Foldes said the notes would not match his market outlook.

“This is a pretty bearish investment. With the S&P opening today 19% off its high and the Nasdaq down 30%, you have to be quite bearish to expect another 20% decline in two years. We’re not bearish,” he said.

“Furthermore, a cap of only 24% in two years despite the fact that we’re already close to 20% down for the year is going to really limit your upside. You won’t benefit from any market rebound. The note was designed for a very bearish, skittish, nervous investor.”

In Foldes’ opinion, the current sell-off is temporary.

In two years

“Our view is that two years from now the clouds that have driven the market down will begin to dissipate. Inflation leading to higher rates and the Fed trying to slow down the economy, these issues will no longer be at play in two years.”

Most of the current market weakness can be attributed to the consequences of Covid-19, he added.

“We had the pandemic and then we had the recurrence of new Covid waves due to new Covid variants. This has led to global supply chain disruption,” he said.

“Add to that the tragedy of Ukraine and you get a pretty ugly situation.

“But we believe that all these clouds will dissipate within the next two years. In all likelihood, the war in Ukraine will be resolved. And it’s not unrealistic to imagine that the Fed may be easing two years from now.”

Reconfiguration

The adviser said his relatively optimistic outlook would lead him to reject the 24% cap on the upside.

“I would give up the 20% buffer and the absolute return. Both features reflect a negative view, which we don’t share,” he said.

In exchange Foldes said he would prefer to see some upside leverage and no cap.

“That would be our preference because we are bullish from today’s depressed levels. How much leverage would the bank be willing to give us, we don’t know. But we are giving up a lot between the dividends, the liquidity, the absolute return and the buffer.

“If you are bullish on the market – and we are – eliminating this cap and adding leverage would be our preferred way to make this note efficient,” he said.

Stay the course

Carl Kunhardt, wealth adviser at Quest Capital Management, agreed there was a slight “risk” on the upside.

But he liked the notes anyway.

“How did they find a hedge for that? I love that note,” he said.

“The cap of 12% a year is more than we anticipate. We expect 8% to 8.5% for the next few years. Right there we get a cap above our expectations. In this environment, our expectations are not very high.”

The most impressive part of the structure was on the downside, he said.

“This 20% buffer carries a lot of value. The fact that it’s also absolute return is just insane. We love it. But just the protection itself is great. It keeps that skittish client in the market. As we all know, the best financial advice is to stay in the market.”

Achille’s Heel

The only risk for investors would be to be “capped out” below the index return.

“If I purposely was looking for an Achille’s Heel, it would be on the upside,” he said.

“If we’re already in a bear market and in a recession, we may recover within two years. You’d miss the bounce back with the 12% a year cap. The average bear market lasts less than a year. If there is a post-bear market rally, you may underperform. I would say that’s the only downside. I still love the note.”

The notes are guaranteed by Goldman Sachs Group, Inc.

Goldman Sachs & Co. LLC is the agent.

The notes settled on Thursday.

The Cusip number is 40057M2M0.

The fee is 1.5%.

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