JPMorgan’s contingent interest autocallables on gold miners ETFs offer hedge, high correlation

By Emma Trincal

New York, June 8 – JPMorgan Chase Financial Co. LLC’s autocallable contingent interest notes due Dec. 13, 2021 linked to the least performing of the VanEck Vectors Gold Miners ETF and the VanEck Vectors Junior Gold Miners ETF offer a double-digit potential return based on the relative performance of two highly correlated underliers, which reduces somewhat the risk of disparate performances, advisers said.

For investors cautious about the market, the underlying asset class provides an additional level of safety.

Each quarter, the notes will pay a contingent coupon at the rate of 14% per year if each ETF closes at or above its interest barrier value, 60% of its initial share price, on the review date for that period, according to a 424B2 filing with the Securities and Exchange Commission.

The notes will be automatically called at par plus the contingent coupon if each ETF closes at or above its initial share price on any quarterly review date other than the final one.

If the notes have not been called, the payout at maturity will be par unless any ETF finishes below its 60% trigger value, in which case investors will lose 1% for every 1% that the least-performing ETF finishes below its initial share price.

Gold miners

“Of course, you can get called in three months. But 3.5% for three months is not a bad return,” said Tom Balcom, founder of 1650 Wealth Management.

One of the attractive aspects of the deal was the strong similarities between the two underlying ETFs, he said.

The VanEck Vectors Gold Miners ETF and the VanEck Vectors Junior Gold Miners ETF have a one-year coefficient of correlation of 0.987, according to FactSet.

The VanEck Vectors Gold Miners ETF, which is listed on the NYSE Arca under the symbol “GDX,” tracks the overall performance of companies involved in the gold mining industry.

The other fund, with the symbol “GDXJ,” tracks the returns of small and mid-capitalization companies that are involved primarily in the mining for gold and/or silver.

“Their correlation is so high, it’s almost as if you had only one underlier. That’s an advantage for the investor,” said Balcom.

Rallying

The two equity funds have both outperformed the S&P 500 index, which has returned 0.73% this year after a bear market in February and March.

Meanwhile the “GDX” fund is up 13% for the year and the “GDXJ,” has gained nearly 6%.

“They had an even bigger run up over the past year,” said Balcom. Both funds have increased by approximately 44% during that time.

“Can the 40% barrier be breached? There’s a low probability although it’s always a risk.”

Income and hedge

While the current stock rally is the result of heightened hopes about the reopening of the economy and the containment of the Covid-19 epidemic, there are still plenty of reasons to remain cautious, he said.

“Uncertainty is still there when it comes to the spread of the Covid-19 infection, the reopening of the economy, the China-U.S. relations, and of course the Presidential Elections in November.

“When people are cautious and uneasy about the future, gold is always in demand.

“Folks may be buying gold as a hedge,” he said.

If it’s the case, the note offers a “fairly decent” income play, he said.

“It’s an option to address the issue of very low returns on fixed-income investments.”

Balcom said he does not have a view on gold, preferring to hedge in different ways.

“Gold is a good hedge against inflation or for the sky-is-falling-type of investor.

“I personally don’t use gold to hedge. I use other things, mainly structured notes,” he said.

Overlapping

Steven Jon Kaplan, founder and portfolio manager of True Contrarian Investments, also pointed to the correlation between the two underlying.

“Not only are they highly correlated, but you also have some overlap. GDX is the large-cap fund with Newmont and Barrick,” he said. Newmont Corp. and Barrick Gold Corp. are the two top holdings of this ETF, which combined, make for 27% of the fund’s portfolio.

“The GDXJ on the other hand is mostly mid-caps. But you see many names of stocks that are in both funds.

Some of those names include Kinross Gold Corp., Northern Star Resources Ltd. and Yamana Gold Inc., according to VanEck’s website.

“When you have two different assets in a worst-of, it’s better when the correlation is high. You limit the likelihood of one going down when the other goes up,” he said.

Recent market rout

Both funds could obviously decline in price.

“But at least you have a 40% downside protection,” he noted.

Kaplan said the notes offered several advantages to investors.

“If it goes sideways or a bit lower, you still make money. In fact, it could go a lot lower and you would still make money,” he said.

“The 14% coupon is a good return even if there is a drop in the price, which can certainly happen.”

During the recent bear market, the share price of the “junior” gold miner ETF fell by 57% between a high at the end of February and a low mid-March. The sell-off was much worse than the 35% price decline the S&P 500 index suffered during that time.

Barrier, call

Despite such volatility at the time, the portfolio manager said the barrier provided a reasonable level of protection.

“My guess is that you’re not very likely to breach the 40% level. In part, it’s because the massive stimulus tends to be inflationary, which makes real assets very valuable,” he said.

“The drop in March was severe. We’ve seen a lot of insiders buying, I don’t think we’ll get prices that cheap again.”

One more likely scenario was the automatic call.

“It can easily happen, and if it does, it will reduce your return. But at least you get a decent return that way,” he said.

“I think overall, this note offers some pretty good terms.”

The notes are guaranteed by JPMorgan Chase & Co.

J.P. Morgan Securities LLC is the agent.

The notes will settle on Thursday.

The Cusip number is 48132MFL0.

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