GS Finance’s $60.03 million digital notes on Nasdaq-100 show sideways bet in volatile market

By Emma Trincal

New York, March 5 – GS Finance Corp.’s $60.03 million of 0% digital index-linked notes due May 11, 2021 tied to the Nasdaq-100 index offer a double-digit return and buffered protection over a short period of time.

But buysiders were concerned about the soundness of a range-bound strategy in a highly volatile market, which could compromise returns or cause losses if the underlying price moves too widely.

If the index return is greater than or equal to 90% of its initial level, the payout at maturity will be par plus 10.07%, according to a 424B2 filing with the Securities and Exchange Commission.

If the index return is below negative 10%, investors will lose 1.1111% for every 1% decline of the index beyond 10%.

Trade date

The deal priced on March 2 at an underlying price of 8,577.965, according to the prospectus.

“The market bounced back but it was still off its highs, so timing isn’t bad for the deal,” said Jeff Pietsch, founder of Eastsound Capital Advisors.

The market rallied on March 2 as traders speculated that the Federal Reserve would cut rates ahead of its meeting, which it did the very next day.

But the rebound was small compared to the historic correction recorded in the previous week when the Nasdaq lost 13%, closing on Friday at 8,567.

The sell-off, the steepest since 2008, was due to the spread of the coronavirus, pushing volatility to new highs as investors were unsure about the impact of the outbreak on global supply and growth.

“With the 13% price drop in addition to the 10% buffer, you do have a decent cushion on the downside,” he said.

“If you enter this trade to reduce your portfolio volatility, it seems pretty reasonable.”

Capped

Pietsch was more concerned about the upside.

“After such a sell-off, you could see a pretty steep recovery at the end of this period,” he said.

The 10% digital payout is especially attractive for any price decline of less than 10% or a slight increase, as further away as possible from the 10% strike. But if the index rises above that level, the potential for returns will be limited.

“You might be giving up some upside opportunity with that 10% cap,” he said.

“On the other hand, it’s not such a long holding period.”

Not a bull play

The structure is definitely not geared toward growth, he noted.

“In this environment with the market selling off, I would be much more comfortable with a plain-vanilla note – 20% buffer, no cap – even if it means investing for a longer timeframe.

“This one is designed for the short-term. But you have to assume the index is not going to surge and we don’t know.

“It’s a volatile environment. You could be giving up a lot of return,” he said.

Income replacement

For a range bound strategy, however, the note may be appropriate.

“You could look at it as an income-oriented product. It’s not callable but it’s a 14-month, a very short-term bet.

“If you see the index moving sideways, you’re almost guaranteed to get that 10% return.

“It’s a quasi-income play from that perspective. They pay you a fixed return. It’s like a coupon.

“Given that it’s a 10% return, it’s a very attractive coupon.

“It’s just not a good investment if you’re bullish,” he said.

Short volatility

Steve Doucette, financial adviser at Proctor Financial, saw in the notes a bet against volatility, which he would not be willing to take in the current market environment.

“There’s not much I like about this one,” he said.

“It’s a range bound note and I’m not sure it’s done with the right index and at the right time.

“The Nasdaq is a very volatile underlying.

“You get 10% in more than a year in a market where you can get a 4% day swing.”

The downside was also a concern. While Doucette said that he can see value in geared buffers, current volatility levels in this case dictate more protection.

Downside

Unlike a traditional 10% buffer, which would expose investors to the risk of losing 90% of their investments, the 10% geared buffer raises the amount of principal at risk to 100%.

“I can’t see trading equity exposure for a 10% cap.

“It’s an awful amount of risk. Theoretically, you could lose 100% of your investment for a 10% return.

“The risk-reward is not appealing.”

For Doucette, the current virus outbreak has generated too much uncertainty and volatility. The market is more likely to trend either up or down than to stay within a tight range.

A recovery could occur, which would deprive investors from further upside, he said.

“What if the coronavirus goes away?”

Fed action

On the other hand, the Fed moved rapidly to ease on Tuesday, cutting the Federal Funds rate by 50 basis points.

“Who knows if the Fed will raise rates again? They already cut half a point before even knowing what the implication of this virus is going to be.

“Should the Fed be monitoring global pandemics?”

Some market participants have pointed to the risk the Fed may have taken in cutting rates aggressively as its ammunitions for further cuts, if needed in the future, is now much more limited.

“The market is too volatile, the future even short-term too unpredictable to make me comfortable investing in a tight range between -10% and +10%,” he said.

The notes are guaranteed by Goldman Sachs Group, Inc.

Goldman Sachs & Co. LLC is the underwriter.

The notes (Cusip: 40056YPL2) priced on March 2.

The fee is 0.74%.

© 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.