§ 3.12 Principal-Protected Notes and Other Structured Products
Structured products are securities.588 They are usually sold through public offerings registered under the 1933 Act.589 Structured products sales originated in the 1980s. They became popular with institutional investors in the 1990s and later were increasingly marketed by brokerage firms to retail investors.590
The product is structured because it consists of components whose performance is structured in multiple ways.591 The products are typically created by investment banks and then sold to institutional investors or brokerage firms that retail the products to their customers.592 A typical structured product has a fixed maturity date and consists of a promissory note component and a derivative component. The derivative component is commonly linked to the performance of the stock market, commodity exchanges, or currency exchanges.593 The derivative can be complex. For instance, the return on a note might be linked to the performance of the Russell 2000 stock index, the Dow Jones U.S. Real Estate Index Exchange Traded Fund, the Brazilian Real-U.S. Dollar Exchange Rate, and the price of copper.594
A critical component of any structured product is the creditworthiness of the issuer or guarantor.595 If the issuer is unable to pay the note at maturity, the product will default.596 This was dramatically illustrated by Lehman Brothers' bankruptcy. Because of the bankruptcy, billions of dollars in structured products that Lehman sold became worth a fraction of the amount invested.597
Among the most popular structured products are those marketed to retail customers as principal-protected notes.598 These are often marketed as bond-like products that provide fixed income with the potential for growth through a derivative component linked to the performance of a stock...
