HSBC’s market plus notes due 2018 linked to S&P 500 offer market exposure with defensive focus

By Emma Trincal

New York, Sept. 2 – HSBC USA Inc.’s 0% market plus notes due March 7, 2018 linked to the S&P 500 index are designed to give cautious investors a barrier protection over a short-term period but without any upside enhancement, said Tim Vile, structured products analyst at Future Value Consultants.

If the index at maturity gains by any amount or falls by up to the 20.9% knock-out buffer, the payout will be par plus the greater of the index return and the contingent minimum return of 0%, according to an FWP filing with the Securities and Exchange Commission.

If the index declines by more than 20.9%, investors will be fully exposed to the decline.

Barrier

“This note is a little bit different,” Vile said.

“It’s one-to-one on the upside only. On the downside you get about a 20% barrier protection. Having a barrier on the downside and no leverage or coupon on the upside is not that common.”

Not many participation products are unleveraged, he said, except for trackers and uncapped products such as these notes.

“You’re getting something very short-term, and to have it uncapped is nice,” he said.

Built to protect

But investors would not buy the product simply for that.

“If your goal is to get exposure to the S&P 500 with no cap, obviously you can buy the index directly,” he said.

“Investors are buying the upside exposure. But what makes the structure interesting is the barrier. That’s all there is really. But it’s a decent size. Having about 21% downside protection via a European barrier is quite good on a short-term note. This is what you get for giving up leverage.”

The term European is used for barriers that are observed at maturity. In contrast, American barriers can be triggered during the life of the note, usually on any trading day, which makes them riskier than the more commonly used European barrier.

No cap, no leverage

The lack of leverage, however, has its disadvantages.

“Not having a cap on such a short-term tenor is not adding a lot of value because the index is not likely to go up 100% in the next 18 months. Since most people expect subdued returns, having some leverage plus a cap may have been a better option for bullish investors. What people are buying here is the barrier,” he said.

Not quite 21%

Advisers are used to round numbers. Usually a note such as this one would have featured an 80% barrier, giving investors a round 20% worth of contingent protection, he said.

“People could look at 20.9% and say, why do they do that? But I think it was the best the issuer could afford based on the options price, and why not give the maximum amount even if it seems a little odd?

“Call it 20.9% or 21%. It’s a very decent protection over such a short time. That’s why you get one-to-one on the upside.”

Methodology

Future Value Consultants evaluates risk, return and price using a variety of proprietary scores in order to compare a product with all product types recently rated.

Usually each product is also compared against its peers, but the number of deals populating the “unleveraged category” to which this note belongs was too thin to warrant the comparison versus peers, he explained.

The firm assesses the risk of a note with its riskmap on a scale of zero to 10 with 10 as the highest level of risk possible. This metrics is the sum of two risk components, market risk and credit risk, which are also measured with their own riskmap on the same scale.

Risk

The notes have a 2.01 market riskmap versus an average of 1.77 for all product types, according to Future Value Consultants’ research report.

“You have a pretty strong barrier, but you can still lose money. In less than two years, the market could drop and you may not have enough time to go back up,” he said.

“You may also be comparing this note with less risky products, for example buffered leveraged notes or income products with deeper barriers. That’s why the score is above two,” he said.

The 0.51 credit riskmap, on the other hand, is slightly lower than the 0.56 average for all products, the report showed.

“The issuer’s credit spreads are pretty tight, and it’s not a long-term exposure. Both factors help and contribute to slightly lower the credit risk,” he said.

The riskmap as a result is 2.53, or slightly higher than the average of all products of 2.33. The result is due to the higher market riskmap, he said.

Return score

Future Value Consultants measures the risk-adjusted return with its return score. The rating is calculated using five key market assumptions: neutral assumption, bull and bear markets, and high- and low-volatility environments. The firm picks the best among the five hypothetical market scenarios and computes the return score on this basis. The bullish assumption is the one used to generate this report.

The return score is 7.73, compared to an average score of 7.13.

“This is not bad for an unleveraged note,” he said.

“Obviously the uncapped exposure helps a lot while the relatively modest riskmap does not bring the score down too much.

“The potential for great returns, however, is limited by the term. You only have one year and a half.

“A slightly longer duration with some leverage would have definitely helped.”

Price score

The value of a product is established on a scale of zero to 10 by Future Value Consultants’ price score. A higher price score means more value.

At 8.48, the price score indicates greater value than the average of all products of 8.23.

The rating takes into account the fees on an annualized basis. The higher the fee, the lower the price score.

Separately short-dated maturities tend to push down price scores. That’s because the fees get to be spread out over a shorter period of time.

“This is quite a good price score considering that it’s such a short duration. And that usually doesn’t help,” he said.

“There isn’t much in terms of options in there, since there’s no cap and no leverage. But the European barrier is pretty defensive. It adds a lot of value. That’s where the relatively good price score comes from.”

Overall

The overall score measures Future Value Consultants’ general opinion on the quality of a deal. The score is the average of the price score and the return score.

The notes have an overall score of 8.10 versus an average score of 7.68 for all products, according to the report.

“This note is good for a bearish investor who wants the exposure but without taking on too much risk,” he said.

“You’re not going for the leverage or the high return. This is more for risk-mitigation purposes, perhaps a note that can be used as a hedge for an existing long U.S. equity position.”

HSBC Securities (USA) Inc. is the underwriter. J.P. Morgan Securities LLC and JPMorgan Chase Bank, NA are placement agents.

The notes will settle on Thursday.

The Cusip number is 40433UVA1.

© 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.