SEC AND FINRA ISSUE INVESTOR ALERT ON STRUCTURED NOTES WITH PRINCIPAL PROTECTION

The SEC and FINRA have issued an investor alert to educate investors about the risks of structured notes with principal protection. These products, notwithstanding their names, have substantial risks.

Structured notes with principal protection have a zero-coupon bond – which pays no interest until the bond matures — with an option or other derivative product with a payoff connected to a certain index, asset, index or benchmark. The underlying index, asset, or benchmark may vary from currencies, commodities and spreads between interest rates.

The investor is entitled to participate in a return that is linked to a specified change in the value of the underlying asset. But the investor needs to know that these notes might be structured in a way such that their upside exposure to the underlying asset, index or benchmark is limited or capped.

Investors who hold these notes until maturity usually get back some of their investment, even if the underlying asset, index or benchmark declines. The protection levels vary, however, with some of these products guaranteeing as low as ten percent.

SEC and FINRA warn that structured notes with principal protection can have complicated pay-out structures that can make it hard to accurately assess their risk and potential for growth. Investors further should know that these notes should be aware that they could tie up their principal for upwards of a decade with the possibility of no profit on their initial investment.

In recent years, structured notes with principal protection have the subject of many a FINRA arbitration and often have been recommended by brokers as safe investments, where they were unsuitable for the customer.