UBS’ $1 million 16% autocalls on American Airlines seen as defensive despite industry risks

By Emma Trincal

New York, Oct. 17 – UBS AG, London Branch’s $1 million of trigger autocallable yield notes due Oct. 17, 2024 linked to the stock performance of American Airlines Group Inc. provide a high guaranteed coupon and deep barrier, making the product appealing despite the ongoing uncertainty within the airlines industry, advisers said.

The notes will pay a monthly coupon at the annual rate of 16%, according to a 424B2 filing with the Securities and Exchange Commission.

The notes will be automatically called at par if the stock closes at or above the initial share price on any quarterly call observation date after six months.

If the notes are not called and the final share price of the stock is greater than or equal to the downside threshold level, 50% of the initial share price, the payout at maturity will be par. Otherwise, investors receive a number of shares equal to $10,000 divided by the initial share price.

Fuel costs

Carl Kunhardt, wealth advisor Quest Capital Management, pointed to some of the headwinds faced by U.S. airlines.

“That’s a tough one. The coupon is very attractive, but it’s an issue of risk especially when you’re dealing with a company like American Airlines that operates in a volatile industry. And I’m not particularly bullish on airlines right now,” he said.

Since the notes can be called in six months, investors need to estimate the chances of an early exit scenario, he said.

“For the next six months, I’m not very optimistic about the airlines because the cost of fuel is going to be higher,” he said.

“How high? We don’t know. But the way airlines manage this risk is by hedging fuel costs. American, which really is US Air with the American Airlines brand, is probably the worst company when it comes to hedging fuel costs,” he said.

US Airways and American Airlines merged in 2015.

Inflation, wages

Inflation will have a negative impact of the economics of most air carriers, he added.

“Future earnings of the company will depend on the pricing flexibility they have particularly in an environment of such high inflation rate,” he added.

Inflation may affect demand as well.

“We’re starting to see depleted savings. If the situation continues, most families are going to stop flying,” he said.

At its worst, inflation could generate wage-price spirals in the industry.

“The airlines have more airplanes and flights than crews. This gives negotiating power to workers, creating upward pressures on wages, which ultimately will hurt profitability,” he said.

Aggressive portfolio

Overall, Kunhardt said his industry outlook was relatively negative.

“Right now, demand is booming, and things look great. But the combination of higher fuel costs, higher wages and potential lower demand is not going to help profits, at least in the short run,” he said.

As a result, the notes may not “pass” the first six-months nor even the first nine months, which brings investors closer to the risk of losing at least half of their principal at maturity if the barrier is breached.

But such risk was small in his view.

“While I’m not very optimistic about the airlines, I might still do the note just because the barrier is so big. You have to go far back in time to find a price level that matches the barrier,” he said.

The notes priced last week at an initial level for the stock of $12.26 setting the barrier threshold at $6.13.

Such level has not been hit since January 2012. Even during the Coronavirus pandemic, the share price of American Airlines did not drop to such level.

Moreover the $12 entry price represents a 46% decline from the November high of $22.35.

“For an aggressive portfolio, given the barrier, I would do it,” he concluded.

High income

Jerry Verseput, president of Veripax Wealth Management, said he liked both the return and the downside protection.

“It’s a nice coupon – a really good deal for someone who needs income,” he said.

“That note is interesting.

“If you’re particularly bullish and think the stock will come back, then you might want to own the shares.

“Personally, I would take the 16% coupon.”

While Verseput does not routinely invest in notes linked to single stocks, this one appealed to him for its solid protection.

Conservative play

“The fact that in order to breach that barrier you need to be lower than the price of 2020 when nobody was flying is pretty exciting, I think,” he said.

“The low in 2020 was $8.25. At $6 a share, my guess is that the value of the planes is probably more than that. You have to go back more than 10 years to see such a bottom.”

Verseput agreed that rising fuel costs are a risk.

“But it’s always been a risk with airlines, and you can hedge it.

“I kind of like that note,” he said.

UBS Securities LLC and UBS Investment Bank are the agents.

The notes settled on Friday.

The Cusip number is 90279FA84.

The fee is 1.75%.

© 2015 Prospect News.
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