Deconstructing Autocallables

Earlier this week, I spent some time trying to dig in more to autocallable ETFs with the help of Copilot. The basic idea is that autocallables have been around for a while as structured notes, an investment product, that tend to have high yields and last year, they started to become available via the ETF wrapper thus democratizing the product. 

We've looked a few times at the Calamos US Equity Autocallable Income ETF (CAIE). The very basic idea is that it pays 14% annually (it's a monthly pay) so long as the reference index does not decline 40%. If the decline is that big then payments are suspended until the underlying index recovers back above point where it breached 40% down. I remember from the presentation when CAIE first listed that there was only one instance where the index went down such that payments would have been suspended. 

CAIE owns 52 autocallables with one coming due and getting replaced in the fund every week which can reduce volatility some. 

It's not even a year yet but you can decide for yourself what you think about it. My hang up has been that I don't think I really understand the risk here. A 14% yield in a 4% world has risk. It's not that no one should take the risk but I don't believe in taking risks that I don't understand. I may have made progress with Copilot. It was kind of a long back and forth but it was productive and hopefully I can convey what I think I've learned. 

I'll include tables from Copilot but the TLDR is that although they continue to pay out as long as there is not a 40% decline, the price will be sensitive to price swings in the reference index which is a derivative of the S&P 500. 

This next one makes them seem very complex.

The prompt for me to do this was that GraniteShares launched autocallable ETFs for two stocks, one tracking Tesla with symbol TLV and the other tracking Nvidia with symbol ANV. I made the obvious observation awhile ago that this sort of thing would be coming and that it is something we should try to learn about. 

Copilot said the "structural mechanics" of TLV and ANV were the same as CAIE other than using individual names for the reference securities. It said the yield on TLV and ANV wouldn't be higher than CAIE. I pushed back on that because by definition there is more risk in a stock than an index so the compensation for the autocallable tracking stocks should more. 

First it agreed that you'd expect higher yields but...

What it really meant was that the yield will be a little higher with TLA and ANV but not enough to compensate for the volatility and risk of the underlyings.

Copilot thinks that TLA and ANV will "carry 2-4x the risk of CAIE but only offer 1.2x the yield of CAIE."

Hoo boy. So I asked if the GraniteShares concept would make more sense with less volatile names like maybe Microsoft and Alphabet. 

Using lower‑volatility stocks like Microsoft or Alphabet would make the GraniteShares autocallable concept materially better — but not for the reason most people assume.
It’s not just “lower vol = safer.”
It’s that autocallables behave non‑linearly with volatility, and MSFT/GOOGL sit in the sweet spot where the structure actually works as intended.

That's really quite an indictment of TLA and ANV. It goes on to say "bad tradeoff" describing TLA and ANV. Using MSFT and GOOG has volatility characteristics that would make the autocallable behave more like it's supposed to behave, it said. 

Alright, I guess Copilot is not a fan. We're going with the idea that Copilot is correct.

While I still am not so intrigued that I want to step into CAIE, knowing there is downside sensitivity helps me understand a little better. I am not saying Calamos said there would be no downside but I don't recall it being discussed.

The reality is that CAIE will "work" the vast majority of time but not feeling like you fully understand what can go wrong makes it a difficult hold even if we understand a little more than we did before. 

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