Investing in structured notes with principal protection can involve long lock-up periods and complicated pay-out structures. When considering a note offering, it’s important to understand how your money is paid back, whether there are call provisions, and the method for calculating market-linked gains (or losses) based on the underlying asset’s performance, index, or benchmark.
Interest Rates
Changing interest rates can impact the price of structured notes. If rates rise, the note may sell for less than its initial estimated value on the cover page of its prospectus or related document, such as a pricing supplement.
Structured notes often link a bond component with a derivative component. They’re retail products that combine a debt obligation, like a bond, with the potential for additional returns based on the performance of one or more reference assets.
Some structured notes include principal protection, ensuring your investment principal will be returned at maturity. They also have formulas based on the performance of one or more reference assets that provide gains when the underlying asset, index, or benchmark increases in value.
Ask your investment professional to describe the potential gains based on the performance of the reference asset, index, or benchmark and whether those gains are subject to limits or caps. Also, ask about call risk and whether the issuer has a right to redeem your structured note before its maturity date.
Maturity Dates
The maturity date determines when an investor’s investment will reach its full term. It is important to understand this concept as it can help investors evaluate the risk and return associated with an investment opportunity and align their financial goals.
Some structured notes with principal protection may only provide full or partial repayment of your original investment if you hold the product until its final maturity. Additionally, you should know that some structured products do not have an active secondary market and are illiquid, meaning you could be required to sell your investment before its maturity for a price less than your purchase price.
Be wary of any investment professional who uses aggressive sales tactics to push you into deciding on a promissory note purchase. This includes using personal email addresses or investment statements that appear to come from a brokerage firm but originate from someone’s home computer. This can signal that the investment professional is operating outside their firm’s oversight obligations.
Security Interests
Structured notes often have complex pay-out structures, and the potential return on your investment – over and above any principal guarantee and assuming you hold your investments to maturity – can vary widely depending on how the product is structured. It would help if you considered how gains (or losses) are linked to the performance of the underlying asset, index, or benchmark, as well as the participation rate and any protection barriers. You should also carefully evaluate the creditworthiness of the note issuer, including its financial strength and reputation and the credit ratings provided by specialized agencies.
Most structured products, including those with principal protection, are designed to be buy-and-hold investments, so you should understand the length of time it could take to receive your full principal back from the purchase of your notes. You may be able to sell your notes before maturity, but you should ask your investment professional about the likely pricing and tax consequences of such a sale.
