TD Bank’s contingent coupon autocalls on gold fund target yield-seeking, risk-taking investors

By Emma Trincal

New York, Jan. 11 – Toronto-Dominion Bank’s autocallable contingent interest barrier notes due Jan. 30, 2020 linked to the VanEck Vectors Gold Miners exchange-traded fund are a high-yield play, causing investors to be exposed to a high level of risk, a market participant said.

The notes will pay a contingent quarterly coupon at an annual rate of 10.6% if the fund closes at or above the coupon barrier, 60% of the initial level, on the valuation date for that quarter, according to a 424B2 filing with the Securities and Exchange Commission.

The notes will be called at par plus the contingent coupon if the fund closes at or above the initial share price on any valuation date other than the final date.

The payout at maturity will be par plus the contingent coupon unless the fund finishes below the 60% barrier level, in which case investors will be fully exposed to the fund’s decline.

Risk versus reward

“My feeling is when we talk about the miners, I don’t like to use it as a coupon or yield-oriented instrument because you’re taking on so much risk [that] a coupon, no matter how high it is, is not going to pay you enough,” this market participant said.

The underlying is an equity fund that tracks companies involved in the gold mining industry. It is subject to wide price moves, according to the chart, as stocks in the sector are closely correlated to gold prices. Last year for instance, the fund rose 53%, but it was down 25% during the previous year.

Fast mover

Prices can fluctuate even more over short periods of time, observed the market participant. For instance, the share price soared 150% during the first seven months of last year. From its early August peak, it then dropped nearly 40% through mid-December. Since then, the fund has attracted the bulls again, and its share price is up 18% in less than a month.

Autocall

Given such sharp price moves, the autocallable feature is a drawback, according to this market participant.

“If you think there will be a resumption of last year’s rally, you get called out so quickly. As soon as you get your coupon in three or six months, the miners could be up 100%,” he said.

While the fund is in rally mode again, it still remains 27% lower than its August high.

“It’s a good entry point for the gold miners,” the market participant said.

“After going up a lot last year it went down a lot. Now it’s back up, but it’s still at a depressed level from where it was,” he said.

This makes the notes unattractive for bullish investors.

“I’m not getting a lot of upside. I’m getting a coupon, but if I get called in three months, we’re talking 2.5% and change.

“For an asset class like that, I’d rather own the shares outright and own a lot less. That’s how I would deal with my risk exposure. Or alternatively, get a leveraged note with three times up and a high cap.”

Income oriented

The deal is not designed to participate in the upside, a source said. “It’s a volatility play for people looking for yield,” he said.

“It’s not a bullish note.”

The underlying fund pays a low dividend yield of 0.25%. This represents a moderate opportunity cost for investors, who are not entitled to receive dividends.

“It’s a very volatile fund, but by selling the volatility, you can capture a pretty high yield and a low barrier,” he said.

“It’s a limited protection of course. If the price drops 50%, you lose 50%.

“But for someone who wants to get some really good income and who doesn’t believe the fund will drop more than 40%, it’s potentially a good play.”

TD Securities (USA) LLC is the underwriter.

The notes will price on Jan. 26.

The Cusip number is 89114QZD3.

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