Many of you may have received a pitch from your broker to look at "Structured Product." It may be marketed as providing principle protection or offering a multiple of some index return. These have long been available to the wealthy, but now they are being offered with minimum investments as low as $1,000 so that almost anyone can buy into them.
Like Equity Indexed Annuities that I wrote about earlier this week, Structured Product is a regular security packaged with one or more derivatives. In fact, an Equity Indexed Annuity is one example of a Structured Product. All the variations I wrote about are available as Structured Product without the annuity.
Because derivatives are involved, the fees involved with Structured Product are very high. It is not unusual to have upfront fees of 6 or 7%. That means you start your investment with only 93% or 94% of your money invested. That is a deep hole to dig out from.
Also, because the derivatives are embedded in the notes you are buying, you do not see the fees associated with them, they are netted against performance.
Some of these products offer no down side protection. Instead they offer you a multiple of the reference index. For example, they may offer you 150% of the return on the S&P 500. They offer you these returns by using a form of leverage - buying a larger call on the upside than the put they sell on the downside.
The down side of Structured Product aside from the high fees is that they are not very liquid. They pay out after some period of time ranging from 1 to 7 years. Because the options are over-the-counter, that is custom made for the deal, you usually can only sell to the broker you bought the deal from. You are hostage to their good will.
One of my rules of thumb is to not invest in anything you don't understand well enough to explain to your grandparents so that they can understand. If you understand Structured Product that well, you can replicate what is being offered yourself at lower cost. If you don't understand exactly what you are buying, how it works, what the upside, the downside and the costs are, don't buy it.
If you are following the World Cup you will know that Ghana is to be congratulated for moving into the round of 16 after defeating the United States. The US goes home. Their option matured out-of-the-money.
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