GS Finance’s callable notes on ETF, stocks introduce principal protection, but risks remain

By Emma Trincal

New York, May 24 – GS Finance Corp.’s $500,000 of callable contingent coupon notes due May 26, 2026 linked to the VanEck Gold Miners ETF and the common stocks of Capital One Financial Corp. and Tesla, Inc. offered an unusual feature for a callable note: 100% principal protection at maturity.

“I haven’t seen that before: a callable note with principal protection,” said Jerry Verseput, president of Veripax Wealth Management.

The notes will pay a contingent monthly coupon of 7% per annum if each asset closes at or above its 70% coupon trigger level on the observation date for that month, according to a 424B2 filing with the Securities and Exchange Commission.

The notes may be called at par plus the contingent coupon on any coupon payment date starting after six months.

The payout at maturity will be par plus any coupon, if any.

Uncorrelated assets

Verseput objected to the use of the negative correlations between the underlying assets to price the principal-protection.

“That choice of underlying looks like random risk,” he said.

“My main issue with the note is the complete non-correlation of the underlying securities. It seems impossible to have any kind of investment premise, whether bullish or bearish, that is common between Tesla, the gold miners and Capital One.

“The only benefit is the principal protection. If things don’t fall apart, you end up with 7%. Meanwhile you can get 4.5% in a money market fund or 5% in a bond fund,” he said.

Call risk

For Verseput, reinvestment risk was to be considered as well even if the six-month no-call postponed the monthly prospect of an issuer call.

“If rates fall, the issuer will seek a lower cost of capital. The note will be called. Right now, interest rates seem to have peaked,” he said.

Overall, Verseput said the risk-adjusted return of the notes was not appealing.

“There’s not enough incremental benefit for the risks you’re still taking,” he said.

“The upside is not even there. To have a company like Tesla in a worst-of, you should have a much higher coupon than 7%.”

Protection is not free

But an industry source said the terms were fair given the benefit of the full downside protection.

“I think it’s a good note,” he said.

“When you have the principal protection, any coupon in the 7% to 9% range is attractive these days.

“The 7% rate gives you a good pickup over the risk-free rate.”

In addition, he said the 30% size of contingent protection was in line with the products he saw recently.

“It seems OK for a stock like Capital One, or even Tesla.

“You have to be willing to take a little bit of risk for the principal protection. In this case, you’re only taking that coupon risk,” he said.

Coupon at risk

A market participant precisely pointed to the risk of not getting paid.

“Your risk is to get stuck for three years with no coupon. That’s the worst-case scenario,” he said.

Such risk had to be measured in light with a comparison of the 7% coupon with short-term Treasuries yielding over 5%, he noted.

“The coupon is not high.

“You’re basically betting on three very volatile underliers being above 70% just to get the extra 2%,” he said.

The issuer call raised additional concerns.

“If rates go down, the issuer will call because they have the option,” he said.

Perhaps the biggest drawback was the exposure to the worst of three uncorrelated assets.

“All three are extremely volatile and the worst of the three is the most volatile,” he said.

The implied volatilities for Tesla, the VanEck Gold Miners ETF and Capital One are 36.77%, 28.53% and 41.21%, respectively.

“It’s useful to have principal-protection but not in this context. You’re taking on too much risk on the coupon. I don’t think the risk-adjusted return has any broad appeal,” he said.

“Your money could be tied up for three years while you’re earning next to nothing. If rates go up, you won’t be able to jump in and take advantage of it.

“Without mentioning the exposure to Goldman’s credit risk for three years.

“I imagine the note was constructed for a particular client,” he said.

The notes are guaranteed by Goldman Sachs Group, Inc.

Goldman Sachs & Co. LLC is the underwriter.

The notes settled on Tuesday.

The Cusip number is 40057RU71.

The fee is 2.6%.

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