CIBC’s $13.62 million capped notes with absolute return buffer on S&P offer hedge, protection

By Emma Trincal

New York, April 4 – Canadian Imperial Bank of Commerce’s $13.62 million of 0% capped notes with an absolute return buffer due March 28, 2025 linked to the S&P 500 index offer protection and possible alpha in a market downturn but investors must tolerate the upside cap, advisers said.

They added that the tradeoff was worthwhile for conservative investors who understood and accepted the less attractive payout in a rising market.

The payout at maturity will be par of $10 plus any index gain, up to a maximum return of 15%, according to a 424B2 filing with the Securities and Exchange Commission.

If the index finishes flat or falls by up to 20.25%, investors will receive par plus the absolute value of the index return. Otherwise, investors will lose 1% for every 1% decline beyond 20.25%.

Managing expectations

“This is really a note for hedging,” said Tom Balcom, founder of 1650 Wealth Management.

“The way you present it to a client is key. You need to explain to them, Mr. Client if the index is down 10% you make 10%. If it’s up, you can earn up to 15% but it’s capped at that level.”

Communication was important for this type of product as investors should not expect unlimited or enhanced upside, he said.

“You have to manage clients’ expectations. It’s not a growth note. You have no leverage; you have a relatively low cap for two years. You have to present it as a hedge.

“It’s for the more conservative type of client. An aggressive client would focus on the limited upside. Getting a little bit more than 7% a year is not really exciting for an aggressive investor. If you’re bullish this is not the right product.

“You have to position the product properly.”

The notes have a bearish bias with the opportunity to earn more on the downside than on the upside, he noted.

“The client wants to be safe. They may come to you and say: I’ve lost 20% last year in the market. Now, I do want some downside protection. If the market drops 20%, they will outperform the index by 40%. If it’s down 25% they only lose 5%.

“Those notes are for the more skittish investor. If the market is up, 15% is not too bad. There is definitely room for this kind of note in any equity portfolio.”

Bearish tilt

Donald McCoy, financial adviser with Planners Financial Services, also liked the defensive aspect of the structure.

“It would be very attractive to a lot of people who want that type of downside protection,” he said.

“You get it in two ways. First the 20% buffer takes a lot of the sting out of any market drop. And then you have this absolute return feature, which many clients would find appealing.”

The upside cap was not as “appealing” to be sure. But it was the tradeoff for the protection and possible outperformance on the downside.

“The note gives you more potential return on the downside than on the upside. You would have to explain to a client why you’re buying this. It’s a defensive tool. If they want that type of protection and understand it, then it’s fine.

The “upside” risk should be put in perspective, he added.

“Worst case scenario, the market is up 35% in two years, and they only get 15%. Well, it’s not the end of the world. If you were stacking that money in cash, you might make 4% over the timeframe. With bonds, you might make 10% to 12% over two years depending on what you buy.

The protection and absolute return come with the risk of lagging the index.

“To me those benefits outweigh the disadvantage,” he said.

Tradeoff

Investors may or may not benefit from the absolute return component.

“It really depends on the magnitude and the timing of a pullback and on how long it will take for the market to recover.

“Let’s say we have a 25% market drop between now and the fall. You still have 18 months to recover. Worst case scenario, you have the buffer built into the downside. If the market was to go down and stay down for a couple of years, you’re saving yourself 20% off the top. If the market recovers but not entirely, say it ends 10% or 15% lower, you’ll make 10% to 15% because of the absolute return.

“I think it’s a good option. You get the protection and the hedge. But of course, it’s not free. You have to live with the cap. To me capping myself at 15% doesn’t seem like a very high price to pay.”

A total of $832 million of absolute return notes also called “dual directional” has been issued so far this year in 191 offerings, according to data compiled by Prospect News. Only a third of this notional amount comes from uncapped notes. Uncapped absolute return notes have an average tenor of 3.67 year versus 1.83 years for their capped counterparts.

BofA Securities, Inc. is the agent.

The notes will settle on Thursday.

The Cusip number is 13607Y766.

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