Barclays’ $10 million contingent coupon notes on SPDR ETF can be swiftly called, advisers say

By Emma Trincal

New York, Aug. 29 – Barclays Bank plc’s $10 million of autocallable contingent coupon equity-linked notes due Aug. 25, 2023 linked to the performance of the SPDR S&P 500 ETF Trust offer several attractive terms, but advisers looked closely at the automatic call frequency making the first call potentially as early as at the end of the first month.

The notes will pay a contingent monthly coupon at an annual rate of 12.3% if the ETF closes at or above its coupon trigger level, 85% of the initial price, on the determination date for that period, according to a 424B2 filing with the Securities and Exchange Commission.

Previously unpaid coupons, if any, will be automatically included whenever a coupon is paid.

The notes will be called at par plus the contingent coupon if the shares close at or above the initial share price on any monthly determination date.

If the notes are not called and the ETF finishes at or above its 85% trigger level, the payout at maturity will be par plus all unpaid coupons.

Otherwise, investors will lose 1.17647% for every 1% decline beyond 15%.

Likely to be called

Steven Foldes, wealth manager and founder of Evensky & Katz / Foldes Financial Wealth Management, said he was uncomfortable with the absence of any “call protection.”

“It’s a lot of work from an adviser perspective to go through the process of crafting this note, allocating it to each client’s account, while it’s highly likely that it’s going to be called early given the current market decline,” he said.

The S&P 500 index after rising nearly 20% from mid-June to mid-August has shed more than 6% in the past couple of weeks, taking the benchmark 15.5% off its high of Jan. 4.

Issuer’s credit

Another issue was the issuer’s creditworthiness even if the term was short.

“Barclays’ credit is not as high as what we would like to see in particular when compared to large U.S. banks,” he said referring to credit default swap rates.

The five-year CDS rates for Barclays are 118 basis points versus an average of 89 bps for the largest U.S. banks – Bank of America, Citigroup Inc., Goldman Sachs Group Inc., JPMorgan Chase & Co., Morgan Stanley and Wells Fargo & Co., according to Markit.

Limited income strategy

At first glance, Foldes said the note was a “nice” income play.

“The [0.2%] fee is reasonable. It’s short-term. You can collect 1% a month. You have a 15% buffer at maturity. It’s a little bit onerous to have a geared buffer, but I don’t have an issue with it,” he said.

“But the fact that you can get called after only one month is problematic.”

As a result, the “income play” was considerably “limited,” he added.

“A client who’s expecting to get 1% a month for 12 months is likely to be disappointed. Yes, if you miss a coupon or two, you can catch up later. But it’s useless if you get called very early. You can’t count on your income stream going pretty far.”

Foldes said that he would much rather invest in a digital note.

“At least you don’t have to worry about being called every single month,” he said.

Complex but positive

Carl Kunhardt, wealth adviser at Quest Capital Management, had a mixed opinion on the note.

“My first impression is that it’s overly complicated. You have the contingent coupon, a potential call every month, the leverage on the buffer... For investors used to either plain-vanilla fixed-income or growth notes, you have a lot of explaining to do,” he said.

At the same time, Kunhardt could not help noticing the positive aspects of the structure.

“I like the fact that it’s not a worst-of. I am tired of worst-of.

“It’s also not an overly long note. One year is a great timeframe. I don’t like to tie my money up for long periods of time. So that’s a positive,” he said.

He also found the memory feature compelling.

“It’s good to be able to capture past coupons. If you miss one, even several of them, you can get them later.

“It’s obviously complicated but it has some great features. And yet, I can’t get excited,” he said.

Searching for flaws

Kunhardt said the potential early call was not what he objected to.

“It doesn’t really bother me. We’re used to thinking of short call periods – I mean calls that can happen quickly – we’re used to seeing that as a negative because we’ve been in a low interest rate environment for decades. When rates are low and you get called too quickly, that’s a problem, yes, because you have reinvestment risk. But that’s not the case when rates are rising. In fact, when rates are rising, getting called soon is actually a positive.

“I would say in that regard, the note is appropriate for its time,” he said.

Still, Kunhardt could not tell what made him uncomfortable with the structure.

“It’s not really the complexity,” he said.

“It’s not the geared buffer either. I never liked them, but it is what it is.

“If I take the elements of the structure one by one, it’s a positive, positive, positive.”

“I can’t really put my finger on it,” he said.

Hedging tool

Perhaps the answer had to be found in the asset allocation process.

“I wouldn’t know where to put it in the portfolio. It’s not growth. It’s definitely not income. A structure that provides a couple of months of income and then nothing doesn’t produce a steady income stream,” he said.

Kunhardt however said the note could serve a specific purpose within the alternative investment bucket of the portfolio.

“Perhaps it may be used as a pure hedge against volatility, against the downside.”

Building solid hedges is not easy in this market, he said.

Put options are expensive and diversification, while imperative, loses some of its benefits when correlations go up as they are right now, he added.

“Take gold. Supposedly it’s a hedge against stock market declines because gold and stocks supposedly have a low correlation to each other. Well, gold has gone through a long slide from April to July at a time when the broad equity market fell more than 25%. Gold should have shined, and it declined. What is it hedging?

“When correlations are up, a structured note like this one can be used to mitigate risk. That’s what makes it an alternative investment.

“So, I guess it’s not a bad note after all,” he said.

Barclays is the agent.

The notes settled on Friday.

The Cusip number is 06748XQ95.

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