The theme this week on the Retirement Quick Tips Podcast is: Investments I Hate.
Today, I am talking about an investment that I thought was forever dead after the financial crisis, but has miraculously risen from the dead in recent years. History doesn’t repeat itself, but given enough time, many bad ideas eventually come to the forefront again.
Structured notes are one such investment. I saw them occasionally on investor statements leading up to the financial crisis, and usually only in accounts held at the largest financial institutions and investment banks.
You can think of a structured note as a packaged up basket of stocks, bonds, or some index. There are a lot of different types of notes, and how much money you make is dependent on how the underlying basket of whatever is in the structured note performs? So what’s different about these compared to a mutual fund, because it sounds a lot like a mutual fund or an index fund. Well, the attractiveness is that there is usually some type of buffer on the downside, where your losses can be limited.
As I see it, that’s the only potentially good thing about these investments, and most downside buffers on these notes aren’t that great anyways, and you can still lose money on investing in a structured note, even if you hold it to maturity.
So let’s move on to the potential problems with structured notes, of which there are many:
- They’re usually expensive and they earn a nice commission for the advisor selling them. This is probably my biggest issue with these notes, as the cost of owning one of these notes can often be many times higher than just owning that basket of investments on it’s own.
- They’re complex, and each structured note has different features. This lack of standardization makes them difficult to understand unless you have a lot of experience with investing in structured notes.
- There’s a very limited secondary market, which means if you want to sell the note before it’s maturity date, good luck.
- The issuer - the big investment bank, can also call the note early and cash you out, which often happens when the notes increase in value by a certain amount…so your returns are capped on the upside, along with the protection you have on the downside.
- And my biggest gripe with structured notes is that when you purchase them, you are assuming credit risk of the issuing bank, and I find most investors who buy structured notes have no idea they are assuming this risk.
Structured notes crashed and burned bigtime in the aftermath of the 2008 financial crisis, because you might remember a company named Lehman Brothers that went belly up. Well, Lehman brothers issued a ton of these structured notes, which were unsecured subordinated debt of Lehman brothers. So all of those investors who brought supposedly guaranteed, conservative, 100% return of principal structured notes from Lehman thought they were getting a conservative decent-yielding investment, when in fact, as Chris Farley said in Tommy boy: all they sold you was a guaranteed piece of shit.
That’s it for today. Thanks for listening! My name is Ashley Micciche and this is the Retirement Quick Tips podcast.
Subscribe on Apple Podcasts: https://apple.co/2DI2LSP
Subscribe on Amazon Alexa: https://amzn.to/2xRKrCs
Visit the podcast page: https://truenorthra.com/podcast/
Tags: retirement, investing, money, finance, financial planning, retirement planning, saving money, personal finance