CIBC’s buffered autocalls on ARK Innovation ETF show disappointing risk-reward, advisers say

By Emma Trincal

New York, May 27 – Advisors’ tolerance for caps is greater when return expectations are moderate, or alternatively, if they feel comfortable with the downside protection. None of those criteria were met with Canadian Imperial Bank of Commerce’s 0% market-linked autocallable securities with fixed percentage buffered downside due June 3, 2025, linked to the ARK Innovation exchange-traded fund, two advisers said.

The actively managed ARK Innovation ETF, which returned 152% last year, offers plenty of volatility.

But monetizing volatility in an autocallable was not seen as a sound strategy given the potential for heavy losses or gains.

The notes will be automatically called at par plus a fixed call premium of 10% to 12% per year if the ETF closes at or above its initial level on any of four annual call observation dates, according to an FWP filing with the Securities and Exchange Commission.

Previously unpaid call premium will also be paid, so that the return at maturity could be as high as 48% depending on the exact call premium, which will be set at pricing.

Disruptive

Actively managed by Cathie Wood, the portfolio of the ETF is concentrated around high-growth, volatile names. Its goal is to identify companies that provide “disruptive innovation.” The fund’s top holding for instance is Tesla Inc. with a 10.24% weight. The next top constituent is virtual care provider Teladoc Health Inc., followed by TV streaming platform Roku, Inc.

Cathy Wood, the portfolio manager who founded ARK Investment Management in 2014 after 12 years at AllianceBernstein, has a following among retail investors for her strong performance. But the fund’s track record this year is not as strong due to the high volatility of its portfolio. Since a mid-February high, the share price has dropped 30%.

Four years

“So, you could have a slight outperformance on the downside with the 10% buffer. But four years out...I can’t get excited about four years out,” said Steve Doucette, financial adviser at Proctor Financial.

“If there’s a tech meltdown, good, you have a buffer. But it’s only 10%.

“The upside is weird. You’re in this high return portfolio, trading the upside for a coupon. This doesn’t make sense.

“This ETF is a horsepower. This is like putting a governor in a sports car.”

Doucette said he has a couple of clients who have inquired about this ETF, intrigued by its performance.

“Everybody is chasing returns. But this stuff is super concentrated around highly volatility stocks.

“I don’t understand what [Cathy Wood’s] fundamentals are, what her investment process is exactly. I don’t think she cares about valuations. A lot of that stuff is overvalued,” he said.

Nearly half of the portfolio is constituted by 10 stocks, according the fund’s fact sheet.

Risky methodology

Robby Greengold, strategist at Morningstar, voiced criticism about the ETF in a recent research note.

“Wood’s reliance on her instincts to construct the portfolio is a liability. This is a high-risk, benchmark-agnostic portfolio that invests across technology platforms the team thinks will revolutionize how sectors across the globe operate. The firm favors companies that are often unprofitable, highly volatile, and could plummet in tandem.”

“The fund lacks well-defined risk controls, which are now more important than ever.”

As the asset base has surged to $23 billion, the fund has become “less liquid” and “more vulnerable to severe losses,” he added in his note.

Short-term use

Doucette pointed to another issue regarding the use of ETFs in structured notes in general.

“Those ETFs are trading vehicles. They’re not designed for buy-and-hold investments. You use them to ride a technical momentum,” he said.

“I’m not sure if it makes sense to use that stuff in a four-year note.”

However, one market scenario would make the notes useful, he said.

“If you think the ETF is overvalued, that it has already had a big run, if you think it’s not going to see much growth, then it may be worth going for the coupon.

“But you have to be really confident,” he said. “You’re playing the range game, and it’s a narrow range. This is a volatile ETF that could make big moves either way.”

Cap

Matt Medeiros, president and chief executive of the Institute for Wealth Management, said he was not comfortable with the risk-adjusted return of the notes.

“It only makes sense for a neutral investor who thinks the fund’s performance has run its course. But in that case, you wouldn’t be buying something like that,” he said.

Investors may never expect to earn more than the call premium on a cumulative basis.

“I don’t like the idea of getting exposure to such volatile securities and being capped on the upside,” he said.

“And 12% is a really a low number for a fund that can skyrocket.”

In just 11 months, between the beginning of the pandemic in March 2020 and a recent high in February, the share price of the underlying jumped 384%.

Weak buffer

Medeiros said a cap can be justified with adequate protection, which he said was not offered by the issuer.

“I’m a little bit surprised that the buffer is so low relative to the timeframe and the volatility,” he said.

“You are taking a lot of equity risk and you should be compensated for that with equity returns.”

In order to consider the notes, this adviser would have to see a “good cap” and also a “very good” buffer.

“I’m talking about a 30% buffer,” he said.

Overall, Medeiros’ objected not so much to the fund itself but to its use as a note underlier.

“The fund itself is very interesting for what it is.

“But the fund inside the structure doesn’t make sense to me,” he said.

Wells Fargo Securities, LLC is the agent.

The notes will price on Friday and settle on June 3.

Wells Fargo Securities, LLC is the agent.

The Cusip number is 13605W3Y5.

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