HSBC’s buffered AMPS linked to S&P 500 ESG index offer access to popular theme

By Emma Trincal

New York, Aug. 25 – HSBC USA Inc.’s 0% buffered accelerated market participation securities due Aug. 31, 2023 linked to the S&P 500 ESG index provide access to an investment trend that’s gaining acceptance and momentum among investors. But financial advisers said the structure was disappointing.

If the index return is positive, the payout at maturity will be par plus 120% of the index return, capped at par plus 17%, according to a 424B2 filing with the Securities and Exchange Commission.

Investors will receive par if the index falls by 15% or less and will lose 1% for every 1% decline beyond the 15% buffer.

Strong performance

A financial adviser considered the risk first.

“I don’t find this appealing. You’re giving up a huge amount of upside for a protection that may not be enough when you know how large risks are in this current environment,” said Kirk Chisholm, wealth manager and principal at Innovative Advisory Group.

Investors if they reach the cap would only get a 5.37% positive return per annum on a compounded basis.

This may be giving up a significant amount of potential gains, said Chisholm given the performance of the underlier.

The S&P 500 ESG has outperformed its mainstream parent over the past three years based on actual and back-tested return data. The ESG index is up 8.79% this year versus an increase of 6.21% for the S&P 500 index.

Over the past year it rose 24.18%, beating the main index by 3.66 points.

Downside risk

This outperformance makes the cap even more objectionable, said Chisholm. But his main concern was the exposure to market risk.

“Risk management is my priority. I’m not so much interested in scoring higher returns. I’m more focused on keeping my returns.”

In constructing its index, S&P Dow Jones Indices focuses on environmentally friendly businesses with good social and governance scores. The methodology for instance will exclude companies producing weapons and tobacco and may reduce allocation to “polluting” sectors, such as oil and gas. Energy has the lowest weighting in the index.

What is driving the outperformance of the ESG index is its higher weightings in technology stocks, according to a research note penned by Payal Lakhani, director of equity research at CME Group.

This overexposure to tech stocks warrants caution, said Chisholm, pointing to the essential role of five top constituents in both indexes – Apple Inc., Microsoft Corp., Amazon.com Inc., Facebook Inc. and Alphabet Inc. in powering the current meteoric rally in the market.

The top five represent 23.44% of the S&P 500 index and an even greater weighting of 30.37% in the ESG index.

Tech heavy

“It doesn’t take a lot to outperform. All you need is tech-related stocks,” said Chisholm.

“The rest is lagging.

“It’s very clear now that the S&P is where it is now because of the big five. Apple is up 122% from its low. The S&P is double its historical average.

“These valuations are extremely high.

“We’ve seen what happened in 2000 with tech-heavy markets. When tech crashes, everything goes down.”

The under-representation of some defensive sectors also constituted a risk, he noted.

“They eliminate some sectors like oil and alcohol that do well in recessions. It may not be the case this time, but historically, that’s what happens,” he said.

The notes would be appropriate for investors who believe the market will be flat, he said.

“If you think the market is going to be neutral, which doesn’t seem very realistic over three years, then it’s probably a good way to do it.

“But if you see the market go down a lot or go up a lot, presumably, that’s not a good deal,” he said.

Structure

Another adviser criticized the risk-adjusted return of the structure.

“I don’t see this as an interesting deal. Your upside is so limited. Having a 15% buffer means nothing when your gains are capped at such low level. It’s a terrible risk-reward,” said Jonathan Tiemann, president of Tiemann Investment Advisors.

This adviser said that the index brings a robust track record.

“It’s a fact. It has outperformed the broader market. A lot can be explained by the sector allocation. It’s also possible that if the index methodology carefully draws its criteria, it may select companies that are better managed although it is not very well established.

“But what’s the point in investing in this note? You won’t see the gains of the index. The structure is very disappointing.

“I guess if someone wants to do some window dressing, just to say they’re allocating to ESG, that could be a reason. But it’s not very economically sound.”

This adviser was also critical of the fee, which is 2.5%, according to the prospectus.

“It has to be a product designed for brokers, something sold rather than bought,” he said.

Access

But access could be one of the hidden benefits of the notes.

There is only one exchange-traded fund in the U.S. tracking the performance of the S&P ESG index, according to the S&P Dow Jones Indices website – the XTrackers S&P 500 ESG fund.

Since the index inception in January 2019, only 11 registered structured notes have priced, for a total of $5 million, according to data compiled by Prospect News.

HSBC has been the only issuer of such notes. Its first deal priced at the end of March, followed by one to three deals at the end of each month.

HSBC USA Inc. is the agent.

The notes will price on Wednesday.

The Cusip number is 40438CSX0.

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.