BofA’s $19.55 million Bear Strategic Accelerated Redemption notes on S&P offer rare bear play

By Emma Trincal

New York, Oct. 2 – BofA Finance LLC’s $19.55 million of 0% Bear Strategic Accelerated Redemption Securities due Oct. 9, 2020 linked to the S&P 500 index offer the convenience of a short-term investment to bet against the market in a rare use of the popular autocall structure, sources said.

The notes will be called at a premium of 15.33% per year if the closing level of the index is less than or equal to its starting value on any of three quarterly observation dates after six months, according to a 424B2 filing with the Securities and Exchange Commission.

If the notes are not called, investors will lose 1% for each 1% gain in the index.

“I don’t remember seeing something like that before,” said a source.

Bank of America’s trade

The structure is relatively new, at least for Bank of America.

In the last five years, this agent distributed a little bit over $100 million of Bear Strategic Accelerated Redemption Securities in only 12 deals, according to data compiled by Prospect News. Those deals were mainly issued by BofA itself but also by HSBC USA Inc. and Royal Bank of Canada within the agent’s platform. Half of those issues came out in 2012, a year which otherwise was not bad for the U.S. market.

Bank of America sold and issued two such deals so far this year, one in July for $12.31 million and a previous one in April for $8.41 million.

The other side

“It’s interesting. I’m not sure I’ve seen a bear autocall before,” said a market participant.

“Of course, bear notes are rare in general compared to bullish notes. But it’s good to see the opposite side.

“What is a structured note if not an investment designed to suit your view?

“By nature, a structured note is a bet on a certain outlook. It’s not something that makes money if the market is up and if it’s down. That’s a hedge fund.

“So, when you think about it, there should be many more bear notes in our industry.”

Missing tool

While firms’ desks can structure just about anything, advisers are often reluctant to show bearish offerings to their clients, he noted.

“But it’s just silly. There is a structured note for every view. If some of your clients are bearish, you need to give them the right tools. This note is a pretty efficient way to make money in a down market,” he said.

The bullish bias however persists among advisers.

“They don’t want to bet against the market. I get that. But if they’re rational, they should know there’s an equal number of buyers and sellers in the market. Otherwise there is no market,” he said.

“You’re bearish. What are you going to do? Short the market and take unlimited risk? Post some margin? It doesn’t make sense for retail investors. And this note for sure is designed for them.”

Tax efficiency

He made that assumption based on the maturity of the product, which is one week longer than one year.

“Retail investors care about capital gains and want the short-term tax treatment. They care about it in a way that institutional investors usually don’t because institutions, pensions already have tax-efficient accounts and strategies.”

The extra week over the one-year maturity is designed to provide long-term capital gains tax treatment, he explained.

“In addition to that, it’s a snowball autocall. There’s no coupon. No coupon, no income taxes,” he said.

Autocall format

The use of an autocallable structure as opposed to a typical dual directional note or principal-protected note paying up when the market is down was “a good idea,” he continued.

“Autocallables are already very popular. It’s the same concept. You get paid if the market is flat or move in the direction you’re betting on. Usually it’s up. In this case, it’s down. It’s very simple.”

Six-month protection

The six-month “call protection” was an advantage for investors seeking to maximize their gains in dollar amounts.

“You get called in six months. You collect 7.66%. If you don’t, you ride it out. You can still make 11.5% or 15.5%. It’s a pretty high premium and some people will be happy to get at least half of it.”

Matt Rosenberg, sales trader at Halo Investing, said he hasn’t seen that type of structure before.

“I don’t typically see notes with no downside protection. So, I may have missed it.

“But it looks like something pretty unusual,” he said.

“I’ve seen something similar, but it was not a U.S. deal and there were important differences. It was a Phoenix autocall with a 20% protection to the upside.

“This is a good way to provide defined outcome for someone with a bearish outlook. I like it.”

He added that the short term was “compelling” but he would have perhaps modified one feature.

“If I was structuring the deal, I may not have put the six-month no-call. It puts more risk to the investor. I’d put a call after three months. If the investor’s outlook is bearish, I would not wait for six,” he said.

From a pricing standpoint, however, skipping the first quarterly observation was probably used to raise the coupon, he added.

A pure bear play

A variety of bearish or semi-bearish structures have come out in the market since the end of last year when stocks tumbled on Christmas Eve, according to data compiled by Prospect News.

Some are digital notes paying out when the underlying finishes above a negative barrier. Others are principal-protected shark notes. The most common ones are dual directional products, said Rosenberg.

“We’ve seen a lot of absolute return with a barrier associated to it. If the market is up, your upside is capped,” he said.

But those deals by definition are not very directional as opposed to the BofA deal, which is purely bearish.

“With the absolute return, if the market is up, you’re just capped out. No risk on the upside. The risk is to the downside, but those deals are very short-term. They’re usually done as worst-of on two indices. And there’s always a barrier,” he said.

Reflecting on the Bear Strategic deal, he said that getting the 15.33% coupon on a single index was “amazing.”

“But again, there is no downside protection and that makes a difference. You’ve got to have a bearish conviction to buy this product,” he said.

BofA Securities, Inc. is the agent.

The notes will be guaranteed by Bank of America Corp.

The deal priced on Sept. 26.

The Cusip is 09710C212.

The fee is 1.25%.

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