Buyer Beware: Questions To Ask Before Investing In Structured Notes by Seth J. Masters, Richard Weaver, John McLaughlin, AllianceBernstein
Bernstein does not offer structured notes, but our clients frequently ask us about them. We think most are unlikely to deliver the promised outcomes. Still, there may be attractive deals. If you are approached about investing in a structured note, we suggest you ask the provider the questions below to uncover important nuances that may be buried in the fine print.
Asking questions like these was an important part of our analysis of one recent offering, discussed in Structured Notes: Read the Fine Print.
Distributions and Taxation
This Tiger Cub Giant Is Betting On Banks And Tech Stocks In The Recovery
The first two months of the third quarter were the best months for D1 Capital Partners' public portfolio since inception, that's according to a copy of the firm's August update, which ValueWalk has been able to review. Q2 2020 hedge fund letters, conferences and more According to the update, D1's public portfolio returned 20.1% gross Read More
How much income (e.g., from dividends) will I receive? What is the annual interest rate?
If the note pays interest, is the amount fixed or will it vary? What is the minimum amount of income I should expect each year? For how many years?
How are any distributions from the note taxed (at the higher rate for ordinary income or the lower rate for capital gains)?
Where can I find information on the value of the note after I buy it? Will the note be listed on an exchange or available to trade in a liquid market?
If the note promises upside participation, what happens if I sell it prior to maturity? Do I still capture the full upside? If not, what kind of discount will apply?
Can the note be called, that is, could its time horizon be shorter than expected? If so, when can it be called and how likely is it to be called prior to maturity?
Commissions, Fees, and Embedded Costs
What selling commissions or fees will I incur?
Does the bank’s treasury group or derivatives desk receive any revenue for constructing the note? If so, where does this revenue come from—is it deducted from my overall return?
What investments in my portfolio should this note replace? How much of my portfolio should be invested in any single note? How much should I own across multiple notes overall?
Am I being adequately paid by the note for the credit rating of the issuer? If the credit rating deteriorates, or the issuer declares bankruptcy, how will the note’s pricing and principal payoff be affected?
The views expressed herein do not constitute and should not be considered to be, legal or tax advice. The tax rules are complicated, and their impact on a particular individual may differ depending on the individual’s specific circumstances. Please consult with your legal or tax advisor regarding your specific situation.