BMO’s $3.41 million step-down autocalls on S&P may appeal to broad range of investors

By Emma Trincal

New York, June 5 – Bank of Montreal’s $3.41 million of 0% step-down autocallable barrier notes with step-up call amount due June 1, 2027 linked to the S&P 500 index offer enough return and risk mitigation features to be considered by a wide range of investors, said a financial adviser. Moreover, the risk-adjusted return makes the structure relatively attractive for investors seeking equity-like returns, another adviser said.

The notes will be called at par plus a 9.85% annualized premium if the index closes at or above its call level on any quarterly observation date beginning on May 29, 2024, according to a 424B2 filing with the Securities and Exchange Commission.

The call level is 100% of the initial level on each observation date except the final one, when it is 70% of the initial level.

If the final level of the index is greater than or equal to its 70% barrier level, the payout at maturity will be par plus the 39.4% final call amount. Otherwise, investors will lose 1% for every 1% that the index finishes below its initial level.

Not really bullish

“It’s a bearish note. I see it as being used as a hedge,” said Carl Kunhardt, wealth adviser at Quest Capital Management, referring to the step-down at maturity and the call mitigation offered by the quarterly calls.

“If you’re really bullish, you don’t buy this product because all you’ve done is set a cap. A 9.85% cap is a reasonable, rational cap but not if you’re a bull.”

In the current market environment, a 10% annualized return may fall short of many investors’ expectations, he said.

“Given that we’re coming off a market dislocation and that the S&P is already above 11% so far, why would you want to limit your upside?” he said.

But for less bullish investors, the note was a “good risk mitigator,” he said.

“I’m not losing money if I get called. I’m not losing money if I get called later. At the contrary: I capture the premium that I didn’t earn earlier. I’m not losing money if I hold the note until maturity unless the S&P drops more than 30%. But what are the odds?”

Broad appeal

The best scenario was precisely to hold the notes until maturity in order to capture the full 39.4% premium, he said.

“Mildly bullish and mildly bearish investors can agree that the note is relatively conservative. You’re not likely to see a 30% drop over a four-year timeframe,” he said.

“All you need is to be above -30% at maturity and you get a 40% return in premium,” he said.

This note could be appealing to a variety of investors.

“As long as the index is flat or up during the term and not dramatically down at maturity, I’ll profit from this product,” he said.

“You could be agnostic, which is mildly bullish. Or you could be mildly bearish. All I’m doing in that case is accumulating these premiums whether I’m paid or not.”

He pointed to two exceptions.

“If I’m bullish, I expect more than what the premium pays. I wouldn’t be interested in the note.

“And If I’m really bearish, I won’t rule out a 30% drop or even more four years from now. The note doesn’t attract me in that case.

“It’s a range bound play, but one likely to primarily attract slightly bearish investors,” he said.

Step-down

A financial adviser said he liked the risk-adjusted return of the notes.

“Chances are you’re getting called out in one year. If you can get an equity return around 10% without taking a lot of risk, I would say: go for it,” he said.

Investors seeking this type of return have no choice but to invest in equities.

“You depend on equities for a double-digit return. But you can reduce your risk and that’s what the note does.”

The 70% barrier over a four-year tenor was “very reasonable,” he said.

But the step-down was the “best part” of the structure.

“You can get the total premium of 39% if you’re above that 70% barrier at maturity. That’s if you haven’t been called before. This step-down gives you a high chance of getting paid.”

Quarterly autocalls

The one-year call protection was also an advantage.

“I just don’t like it when I get called after three months. It’s a hassle. So that one-year no-call is very attractive. You still have the reinvestment risk but not for the first year,” he said.

The barrier was deep enough for a four-year term, he said. The quarterly frequency of the calls also helped reduce the risk.

“You have 12 opportunities of getting called. It reduces your risk. By how much? I don’t know. But once you exit early, obviously you can no longer lose money,” he said.

He pointed to a few factors which investors should consider.

“You just have to be comfortable with the credit risk. But Bank of Montreal is very solid. You also need to be committed for four years even though the duration of your investment is likely to be much shorter.”

Finally, investors had to be willing to take the reinvestment risk.

“If the market is up a lot, you’re not in an ideal situation to redeploy your money.

“But overall, this is a pretty good note. There isn’t a lot of risk in this structure and there is a very good potential return,” he said.

BMO Capital Markets Corp. is the agent.

The notes settled on Thursday.

The Cusip number is 06374VVM5.

The fee is 0%.

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