According to Bloomberg, the sale of structured notes (also known as principal protected notes, or PPN) that come with derivatives to thousands of individual investors has driven up their sale by 58% to $31.9 billion through August. Unfortunately, investors are often lured into making such purchases without fully comprehending the risks, and this can result in significant losses. This year, the US Securities and Exchange Commission’s enforcement division began a group concentrated on investigating structured products.
Banks create structured notes products by bundling privately negotiated over-the-counter derivatives with bonds. Because the Commodity Futures Modernization Act excludes most trades between institutions from oversight, banks can sell OTC derivatives to individuals as long as they are put together with bonds into hybrid securities. Individual investors, even though they lack the background and knowledge to fully understand the risks involved, are targeted for these notes to increase banks’ profit margins. Also, because structured notes aren’t standardized, brokers are paid more to sell structured notes than they are for selling some of the other financial products.
Structured notes have grown in popularity since the Federal Reserve has maintained its target rate for overnight loans between banks at 0% to .25%. With US interest rates close to 0%, investors are buying up the bonds. Reverse convertible notes has paid 13% interest on average in 2010.
Granted, investors can obtain higher returns if their bets work out, and principal-protected notes and some of the other products are not as risky as stocks because sellers guarantee that investors won’t suffer losses if the market falls. However, because there are variables outside the scope of interest rate movements, investors can lose money. Institutional Risk Analytics Managing Director Christopher Whalen has said that structured notes will likely become the next investment bubble.
Retirees Duped by Derivatives With Structured Notes Sale Surge, Bloomberg, September 22, 2010
Structured Notes Becoming New “Investment Bubble” on Wall Street, says Institutional Risk Analytics Director, http://www.stockbrokerfraudblog.com, August 12, 2010
Shepherd Smith Edwards & Kantas LTD LLP Investigates Claims for Purchasers of Structured Notes, GlobalNewswire, August 11, 2010
Shepherd Smith Edwards & Kantas LTD LLP represents senior investors and others that have sustained financial losses because the risks involved in their structured notes investments were not adequately explained to them. Contact our securities fraud law firm today.