HSBC’s $64.49 million market-linked step-up autocall on S&P heavily bid amid uncertainty

By Emma Trincal

New York, Sept. 4 – The deal size of HSBC USA Inc.’s $64.49 million of 0% autocallable market-linked step-up notes due Aug. 29, 2025 tied to the S&P 500 index attested to investors’ appetite for mildly bullish products as confidence about the resilience of the bull market is fading, a distributor of structured notes said.

The notes will be called at par of $10 plus an annualized call premium of 6.38% if the index closes at or above the initial level on an annual observation date, according to a 424B2 filing with the Securities and Exchange Commission.

If the notes are not called and the index finishes above the step-up value, 130% of the initial level, the payout at maturity will be par plus the index gain.

If the index finishes at or below the step-up level but at or above the initial level, the payout will be par plus the step-up payment of 30%.

Investors will receive par if the index falls by up to 15% and will lose 1% for each 1% decline of the index beyond 15%.

Big deal

“It’s a pretty good size and I’m not really surprised,” said Matt Rosenberg, sales trader at Halo Investing.

“First it’s a snowball. If you miss one year, you can get called the following year and you’re not missing out any income.

“We’re seeing more of these snowball deals. They’re becoming increasingly popular.”

Indeed, a call in the second year will generate a 12.76% return, followed by a 19.14% return on year three, etc., up to the final call premium of 31.9% at the end of the fifth year.

“Second, it’s a core underlying.

“And third, you have this 15% hard buffer at a time when people are worried about the market,” he said.

Sideways market

The structure is not unknown. But it is not typical either, he noted. While uncapped at maturity, the notes are not designed for growth. The return is a call premium paid upon early redemption, which is different from pure income.

Yet, the fixed payment showed some appeal.

“It’s not a traditional way to capture a return. But it’s still giving you a decent coupon in a sideways market,” he said.

“6% a year...when you talk to most clients, they’ll tell you: make me 5% a year and don’t lose my money.

“This coupon is not huge. But people right now want to play it safe.”

The call in itself is a risk-reducing event since principal is no longer at risk upon the early redemption.

A twist

Autocallable market-linked step ups are the brand name of a structure mainly marketed by Bank of America even though some other agents have been showing similar products. This deal, which priced last week, was no exception.

One detail in the product’s payout however was different from other Bank of America step-ups.

Rosenberg noted that unlike most similar structures, the final step payment at 30% payable at the end of the sixth year was lower than the maximum 31.9% call premium payable on the final observation at the end of the fifth year.

Normally the final call date matches with the maturity date and the cumulated premium is equal to the step-up payment. In this case, investors who never get called but receive the step payment at maturity would actually be paid slightly less (30%) despite holding the note a year longer than those being called after five years who receive the 31.9% premium.

“I’m not sure why it doesn’t match up,” he said.

“But it’s not going to have an impact in my opinion.

“It’s a six-year note but you’re unlikely to get to the final maturity. You’ll get your payout sooner rather than later.”

Sky and limits

A market participant noted that the structure “is not new” but said he was not comfortable with the six-year tenor despite the call option.

“Like any other structured note, you’re foregoing dividends and interest, only in this one you do lose these things for six years, not two or three. You have to assume that there’s a chance you would never get called,” he said.

Investors like the idea of an unlimited upside at maturity if the index is above the step level. But this scenario is unlikely, he said.

“Good luck getting that one. First, getting there means the note never gets called five years in a row. So, during five consecutive years, the index would finish negative.

“It would be highly unusual to jump from negative to +30% in the last year,” he said.

Payment of the index return above 130% is the equivalent of owning an “out-of-the-money” call at a strike of 130. In addition to the 30% coupon, the position allows the investor to participate on a one-to-one basis in each point of index increase above 130.

Six-year term eyed

“That call is almost meaningless,” he said.

“It’s cheap because it’s unlikely to be exercised.”

The call will be exercised if the index climbs over 130.

“Meanwhile you still have six years of credit risk exposure and six years of non-dividend payments.

“You would be better off with a one-year reverse convertible paying 6% and rolling it over. That way you wouldn’t be carrying that much risk.”

Even the 15% buffer did not make the risk-reward much more appealing, according to this market participant.

“It’s nice to have a buffer. But if you never get called, you still have 85% exposure to the downside while your upside is limited to the coupon,” he said.

“You may get nothing if you’re not called. And you still have most of the downside risk.”

“All deals are driven by probabilities. On a six-year you’re taking the risk of not being called. Your upside return depends on whether you get called or not. And you’re stretching that risk over a long time.”

BofA Securities is the underwriter.

The notes priced on Aug. 29 and will settle on Friday.

The Cusip is 40436B212.

The fee is 2%.

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