Understanding Structured Investments: A Modern Diversifier or Unnecessary Component?
Structured investments allow investors to tailor an investment strategy to specific market views and financial objectives. By combining a debt security with exposure to underlying assets—such as equities, commodities, currencies, or interest rates—these products offer investors a flexible tool to potentially enhance returns while managing risk.
Here we’ll discuss the key components of structured investments, available product types, and the benefits and risks involved.
Structured Investments Defined
Structured investments are financial instruments that mix traditional debt with exposure to an underlying asset(s). The unique payoff formulas of these investments allow investors to target specific market scenarios—whether bullish, bearish, or neutral—while aligning with their overall investment strategy. This innovative blend can help complement your portfolio by addressing goals including capital appreciation, income generation, or risk management.
Types of Structured Investment Products
Structured investment products are categorized into several key groups, each designed with a particular risk-return profile in mind:
- Market-Linked Notes and Deposits:
Allows you to participate in the performance of an underlying asset while providing the return of your principal at maturity. Market-linked deposits have the added benefit of FDIC insurance, whereas market-linked notes do not, making credit risk a key consideration. - Partial Principal at Risk Securities:
Offers the potential for higher returns but with the possibility of losing a portion of your principal—generally between 1% to 10%—depending on market performance. - Enhanced Yield Investments:
This might be appealing if you’re looking for a chance at above-market periodic yields. However, the trade-off is that these products may expose you to the risk of losing some or all of your initial investment. - Leveraged Performance Investments:
Designed for the more aggressive investor, these securities aim to amplify returns using leverage. They often come with a cap on potential gains and carry the risk of a partial or total loss of principal.
Each type is structured with a defined term, meaning they have a specific maturity date ranging from a few months to several years. This fixed-term nature clarifies how market movements will affect your returns over time.
Benefits of Structured Investments
Structured investments offer several attractive features:
- Customization:
They’re tailored to match a specific market outlook or financial objective, whether capital preservation, income generation, or growth through exposure to diverse asset classes. - Diversification:
By incorporating different underlying assets, structured investments can provide a complementary diversification tool within a broader portfolio strategy. - Defined Outcomes:
Since the returns are based on predetermined formulas, investors know upfront how various market scenarios could impact their final payouts. Investments must be held to maturity to achieve the defined outcome.
Weighing the Risks
While the potential rewards can be compelling, structured investments also come with their share of risks:
- Credit Risk:
Many investments are senior unsecured notes, and your investment is tied to the issuer’s creditworthiness. A downgrade in credit ratings or financial difficulties at the issuer can adversely affect your returns. - Liquidity Risk:
Structured investments may not trade on a secondary market. You may have to accept a lower price than what you initially paid if sold before maturity. - Market Risk:
The performance of the underlying asset(s) plays a crucial role in determining your return. Significant volatility in these markets can result in lower-than-expected payouts or even losses. - Loss of Principal:
Many structured investments do not promise a full return of your initial investment if market conditions turn unfavorable.
It’s essential to review the prospectus and consult with a financial advisor (or us!) to ensure these products align with your risk tolerance and investment objectives.
Are Structured Investments Right for You?
Structured investments can be a powerful addition to a diversified portfolio. They offer exposure to new asset classes and customized risk-return profiles. However, they are not a one-size-fits-all solution. The right choice depends on your individual financial situation, market outlook, and investment goals. Whether you’re looking to preserve capital or achieve higher returns, understanding the mechanics and risks is essential to making an informed decision.
Final Thoughts
Structured investments represent an evolving segment of the capital markets that marries traditional fixed-income instruments with innovative market exposure strategies. With the ability to tailor specific market views and investment objectives, this strategy may be an intriguing option.
If you’re interested in exploring structured investments, consider scheduling a call with us. Remember, while these products offer attractive benefits, they also come with inherent risks requiring diligent consideration.
Please consult with your financial advisor and/or tax professional to determine the suitability of these strategies. All views, expressions, and opinions in this communication are subject to change. This communication is not an offer or solicitation to buy, hold or sell any financial instrument or investment advisory services.