Barclays’ SuperTrack notes linked to Financial Select Sector SPDR fund seen as too long

By Emma Trincal

New York, June 12 – Despite a “straightforward” structure, Barclays Bank plc’s 0% SuperTrack notes due June 16, 2022 linked to the Financial Select Sector SPDR fund disappointed advisers due to its tenor.

If the ETF return is positive, the payout at maturity will be par plus 1.36 times the ETF return, according to a 424B2 filing with the Securities and Exchange Commission.

If the ETF return is negative, investors will have one-to-one exposure to the decline.

“You’re losing a lot of liquidity during that five-year timeframe,” said Jerrod Dawson, director of investment research at Quest Capital Management.

“Since all you have is the leverage but no protection, it seems to me you could manufacture the upside yourself or through your broker. You just pick your exposure and buy calls.

“You could make the argument that it’s easier to package this in a note. I guess that’s why you pay a fee in a note.”

The financial sector offers some appeal with attractive price levels for entry, he said.

Financial stocks had a strong rally at the end of last year following the November presidential election, but they have been underperforming the overall market this year, he noted.

Value

The Financial Select Sector SPDR fund, which tracks the performance of the financial sector in the S&P 500 index, is down more than 11% so far this year while the S&P 500 has gained 8.5%.

“There is value to be had in this space,” he said, pointing to the fund’s 10-year chart.

In 2007 the ETF hit a peak of $38 per share. It bottomed in early March 2009 at $9.

The fund closed at $24.35 on Monday.

“We’re halfway between the pre-crisis high and the 2009 bottom,” he said.

Uncertainty

However, Dawson said value and uncertainty go hand in hand in the sector.

“I don’t profess to be an expert, but the sector itself is pretty leveraged.

“The backdrop of interest rates and the Fed is pretty fluid. They’re talking about raising rates three or four times a year, but they’ve been saying that for five years now.”

The sector has been one of the biggest beneficiaries of the so-called Trump trade, rallying on the view that the new administration would implement its pro-growth agenda, including tax reform and deregulation. Now the market has turned more skeptical about the prospect of those reforms being passed this year.

“It’s a very uncertain environment between the Fed, interest rates, Washington. I’m not super bullish on financials.”

In general, Dawson said he avoids sector bets, preferring a more conservative, long-term growth-oriented investment style.

“We usually don’t do pure sector plays,” he said.

“That specific sector for that long doesn’t seem like something we would want to do.”

Terms

Kirk Chisholm, wealth manager and principal at Innovative Advisory Group, also criticized the length of the notes but said that the other aspects of the structure are attractive.

“It’s pretty straightforward,” he said.

“You’re getting a normal, one-to-one downside while your upside is 1.36 times.

“I like the no-cap, and I like the leverage. But I don’t like giving up the dividends.”

Dividends

The cost opportunity associated with the non-payment of dividends is “not much,” he conceded. But it is still a disadvantage compared to the fund.

The underlying fund has a 1.66% dividend yield.

“The fund has to be up 6.10% over the five years for you to break even. It’s not much, but it’s still a negative,” he said.

On the downside, equity investors would have an advantage over the noteholders as the roughly 8% in dividends would cushion some of their losses.

A five-year tenor also brings all the well-known risks associated with structured notes, he said, such as credit risk exposure and lack of liquidity.

Sector risks

Finally, the financial sector would be very sensitive to an economic downturn.

“The financial sector is getting stronger. But again, risks abound for banks and financial institutions in this uncertain rate and macro-economic environment,” he said.

“There is definitely a risk of recession. That’s why I don’t like the five years because you are very likely to have a recession in that timeframe based on historical precedents. And that’s problematic. It’s a bit of a challenge when you invest in banks.”

A sign of a recession is an inverted yield curve, with shorter interest rates higher than rates on the long end of the curve.

“We haven’t seen that yet because short-term rates have not gone up. But if it is the case and if the long end flattens or become inverted, that will be the sign of an economic recession, which we are due for,” he said.

“I think financials are going to do OK, but I wouldn’t overweight the sector.”

Overall, however, it is more the long tenor than the choice of the underlying that poses the greatest risk.

“With the exception of the five-year [term], I think it’s a reasonable structure for the notes, regardless of the underlying.

“I like the one-to-one downside. If you have leverage on the upside and not on the downside, you benefit. I do like the no-cap.

“But five years is a long time.”

Barclays is the agent.

The notes will settle on Thursday.

The Cusip number is 06741VYP1.

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