HSBC's 0% notes tied to three buffered return enhanced indexes seen as 'optically' attractive

By Emma Trincal

New York, Dec. 8 - HSBC USA Inc.'s upcoming 0% notes due Dec. 24, 2012 linked to three buffered return enhanced components and their related currencies aim to boost the upside return by using a separate cap on each of the three underlying indexes, a structurer said.

"You can see more and more deals where the caps are broken down, with a specific cap on each individual basket component," he noted.

"It's easier to structure the note that way because the cost of the options is cheaper.

"It makes the terms optically more attractive."

The basket's components are the Euro Stoxx 50 index with a 55% weight, the Topix index with a 23% weight and the FTSE 100 index with a 22% weight, according to an FWP filing with the Securities and Exchange Commission. Their related currencies are the euro, the Japanese yen and the pound sterling, respectively.

Each index is converted into dollars on the pricing date and at maturity at the exchange rate then in effect.

The payout at maturity will be par plus the basket return, which will be the sum of the weighted component returns of the basket components.

If an index finishes above its initial level, its component return will be double the underlying gain, up to a maximum return of at least 29% for Euro Stoxx, at least 27.6% for the FTSE and at least 23% for the Topix. The exact caps will be set at pricing.

There is a 10% buffer on the downside, which remains the same for each component. But as with the cap, the buffer is not applied to the basket return as a whole but to each of the basket components.

If an index falls by up to 10%, its component return will be zero. If an index falls by more than 10%, its component return will be 0% minus 1.11111% for every 1% decline beyond 10%.

Individual caps

"The cap is higher if you do it individually. Individual buffers help improve the terms as well," said the structurer.

Several caps and several buffers make the cost of the options cheaper because there is increased risk for the investor, he said.

"A cap by definition will limit your performance. With more caps, you have more opportunities for your performance to be limited," he said.

"Same with several buffers rather than just one; it's easier for each component to get knocked in.

"Both ways, your options are cheaper, which makes the terms more attractive."

Another source of risk, according to the prospectus, is the downside leverage factor after a component return declines by more than the 10% buffer amount, which puts investors at risk of losing their entire investment.

"There is risk in this product, obviously, but investors are more and more open to capital-at-risk products," the structurer said.

"What they get is leverage, and investors realize that getting leverage through a structured investment may be more capital-efficient than doing it via borrowing the stocks on margin.

"These notes are for bulls up to a certain extent because they do have caps. It's good if you have a very specific target or performance range in mind."

Europe red flag

Others feel that investors are at risk due to the regional equity markets they're getting exposed to.

"The caps and buffer used on each individual index are attractive features, and we like the upside potential of the notes," said Matt Medeiros, president and chief executive of the Institute for Wealth Management.

"But the asset classes themselves are not really a risk we would want to take at this time.

"There are some real structural concerns in the euro zone and in Europe in general, so I'd rather wait before investing in the Euro Stoxx 50 or the FTSE.

"Japan in itself is interesting. But I don't know if Japan will maintain a negative correlation to the two other regions over a short period of time.

"Correlation is an issue here. If I wanted to get exposure to any of those regions, I would prefer to buy the indexes separately."

HSBC Securities (USA) Inc. is the underwriter. Distribution is through J.P. Morgan Securities LLC.

The notes will price on Friday and settle on Dec. 14.

The Cusip number is 4042K1UF8.

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