TD Bank’s leveraged capped notes linked to ETF basket offer broad diversification with buffer

By Emma Trincal

New York, Dec. 9 – Toronto-Dominion Bank’s 0% securities with capped leveraged upside due July 6, 2020 linked to a basket of six exchange-traded funds give investors exposure to a wide variety of asset classes with a hard buffer on the downside.

The basket components are the SPDR S&P 500 ETF Trust with a 50% weight, the iShares Russell 2000 ETF with a 15% weight, the iShares MSCI EAFE ETF with a 15% weight, the iShares MSCI Emerging Markets ETF with a 10% weight, the PowerShares DB Commodity Index Tracking Fund with a 5% weight and the Vanguard REIT ETF with a 5% weight, according to a 424B2 filing with the Securities and Exchange Commission.

If the basket return is positive, the payout at maturity will be par plus 1.5 times the basket return, subject to a maximum return of 45% to 50%, which will be set at pricing. Investors will receive par if the basket declines by up to 15% and will lose 1% for every 1% decline beyond the 15% buffer.

Diversified mix

“They put the whole ball of wax in there,” said Donald McCoy, financial adviser with Planners Financial Services.

“This is a very diversified basket across different asset classes: U.S. equity, international equity, emerging markets, commodities and real estate. Because of the uncorrelated nature of these basket components, the issuer is able to reduce the overall volatility of the underlying, which helps the pricing of the leverage,” a market participant said.

McCoy believes the notes were mostly designed for a flat or mildly bullish market.

“If the market is up 6% per year, that’s all we need to reach the cap,” he said.

At the lower end of the range, a 45% cap would give investors a maximum annualized return of 8.6% taking compounding into account. Such cap could be achieved if the basket increased at an annual rate of 6%.

Low expectations

“It seems like a good product for somebody who has very low to moderate expectations on the market and is willing to tie their money up for four and a half years,” he added.

“You get that buffer, which is a very enticing element because normally on four and a half years, you have a pretty good chance of finishing up. But the buffer will give you downside protection if you get a setback toward the end. At least you get even.

“For people who don’t need the liquidity and who just have very mixed emotions about the market on the global level, it looks like a good option.

“You get a small exposure to emerging markets, commodities, and you might be buying on the bottom right now, which may yield profitable results at the end.”

Canadian banks

The market participant noticed that demand for Canadian issuers is strong.

“Canadian banks are coming in. A lot of the broker-dealers are looking to diversify credit risk. Considering that Canadian banks tend to have good ratings and that they are not overwhelmingly present in the U.S. market, there is demand for this type of paper,” he said.

Basket-linked notes

Notes linked to diversified baskets of indexes or ETFs have become less common, he noted.

“I haven’t seen a lot of that lately,” he said.

“In theory, those basket-linked products should be a staple because over the long term, diversification is appealing.

“But we haven’t seen many. I suppose it’s because a majority of financial advisers put these portfolios together on their own.

“That may change and we may see more. You always find someone happy to buy a full solution in one security.

“I’m seeing a marketing trend ... people pitching retirement trades through long-term diversified portfolios. This may be related to that.”

TD Securities (USA) LLC and Wells Fargo Securities, LLC are the agents.

The notes will price on Dec. 30 and settle on Jan. 5.

The Cusip number is 89114QUE6.

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