COVID-19 Update: How We Are Serving and Protecting Our Clients. Learn More »

Over $125 Million Recovered For Investors!

Justia Lawyer Rating
Martindale-Hubbell Badge
Super Lawyers Badge
Million Dollar Advocates Forum

Investing in Note-Linked Structured Products

In general, structured products are notes linked to a single security, a basket of securities, an index, a commodity, a debt obligation, and/or a foreign currency. There is a large variety of structured products, some of which offer full principal protection, while others offer limited or no protection of principal. The majority of structured products have a fixed maturity date and pay an interest rate substantially above the prevalent market rate, but they also frequently limit the upside participation in the reference asset if principal protection is offered. Investment banks or their affiliates are the primary issuers of structured products, but the products are not all listed on a national securities exchange. In fact, even those structured products listed on a national securities exchange may be illiquid or very thinly traded.

Note linked structured products typically consist of a note and a derivative. The investor receives payments from the note component at a specified rate and interval, and the derivative established the payment at maturity. In some products, the derivative can be a put option sold by the investor, which gives the issuer the right, but not the obligation, to sell the investor the reference security at a predetermined price. On the other hand, the derivative can be a call option sold by the investor, which gives the issuer the right, but not the obligation, to buy from the investor the reference security at a predetermined price. Even though note-linked structured products comprise of a derivative, they are often marketed to investors as debt securities.

Note-linked structured products were developed in the 1980s and sold primarily to institutional investors in the 1990s. In recent years, broker-dealers have increasingly targeted general retail investors. Although many of the note-linked products sold to retail investors are based upon "blue chip" and "household-name" stocks that comprise the S&P 500 or the NASDAQ -100 indexes, firm sales practices have created concerns about the manner in which the products are marketed to investors. Over $100 billion worth of note-linked structures products have been sold in recent years, often to senior investors looking to earn more interest while protecting their principal. In addition, they tend to pay higher commissions to brokers than conventional fixed income products do.

The Financial Industry Regulatory Authority (FINRA) has established regulatory guidelines for activities related to note-linked structured products, including promotion and communications with the public, recommendations to customers, conflicts of interest, suitability, supervision, and training. In the promotion of note-linked structured products, FINRA has observed that the disclosures provided in supplemental sales materials tend to be unbalanced or offer fewer risk disclosures than are contained in the preliminary and final prospectus supplements. Note-linked structured product marketing materials should not portray the product as conservative or a predictable source of income unless such statements are fair, accurate, and balanced. In addition, guidelines prohibit exaggerated statements and the omission of any material fact that would cause a communication to be misleading. Furthermore, in promoting the interest rate offered by the product and the credit worthiness of the issuer, broker-dealers are required to balance their promotional materials with disclosures about the risks, which may include loss of principal and the possibility that the investor will own the reference asset at a depressed price at expiration - broker-dealers presenting a credit rating must address the fact that the creditworthiness of the issuer does not affect the performance of the investment. Moreover, broker-dealers must be careful to balance any statements concerning the fact that the product has a ticker symbol or has been approved for listing on an exchange with the risks that a liquid trading market may not develop.

Broker dealers are required to consider whether note-linked structured products should be recommended to all investors, and not just those that have accounts that have been approved for options trading. Due to the similarity in the risk profiles of both note-linked structures products and options, FINRA deems it appropriate to require that note-linked structured products only be purchased in accounts approved for options activity. However, if firms opt not to limit activity to approved accounts, they out to develop other comparable procedures designed to ensure that note-linked structured products are only sold to investors with a sufficient risk tolerance profile. In addition, sales of note-linked structured products to discretionary accounts must comply with conflict of interest rules. FINRA rules state that if a conflict were to exist, prior specific written approval by the customer would be required.

Broker-dealers understand that not every note-linked structured product will be suitable for every account approved to trade such products. Therefore, simply approving an account to trade note-linked structured products is no substitute for a reasonable suitability analysis. A reasonable suitability analysis consists of understanding a client's financial situation, tax status, investment objectives, trading experience, and ability to meet the risks involved with such products. In order to completely discharge itself from its obligation to complete a reasonable suitability analysis, broker-dealers must also perform appropriate due diligence to ensure that it understands the nature of the product as well as the potential risks and rewards. Overall, broker-dealers cannot make any generalized conclusions about the suitability of a note-linked structured product and an investment in the reference asset seeing as such products may have very different risk-reward profiles than their reference assets.

To help ensure that sales of note-linked structured products sales are conducted in compliance with securities laws, broker-dealers are required to establish and implement written supervisory procedures. Written procedures must include: 1) that reasonable basis suitability is completed before the product is offered and sold; 2) associated persons perform appropriate customer-specific suitability analysis; 3) the firm has procedures to determine accounts eligible to purchase structured products; and 4) all promotional materials are accurate and balanced. In addition, written supervisory procedures must be tested to ensure adequate compliance with all applicable securities laws and rules.

FINRA guidelines require broker-dealers to train registered personnel about the characteristics, risks, and rewards of each structured product before they allow registered persons to sell note-linked structured products. In addition, training should include content related to the factors that make such products either suitable or unsuitable for certain investors. Broker-dealers should also provide appropriate training to supervisors of registered persons selling structured products. No matter the audience, training should emphasize the unique nature of the product, which may not be fully understood by most retail investors. Furthermore, due to the fact that investors are turning to note-linked structured products as an alternative to traditional equity and fixed income investments, it is crucial for registered persons to have a full and balanced understanding about the risks and rewards of the product. A broker-dealer's failure to comply with FINRA rules, practices, and procedures could investors with a claim to recover their note-linked structured product losses.

The most important of investors' rights is the right to be informed! This article on note-linked structured products is by the Law Offices of Robert Wayne Pearce, P.A. , located in Boca Raton, Florida. For over 40 years, Attorney Pearce has tried, arbitrated, and mediated hundreds of disputes involving complex securities, commodities and investment law issues. The lawyers at our law firm are devoted to protecting investors' rights throughout the United States and internationally! Please visit our blog, post a comment, call 800-732-2889, or email Mr. Pearce at for answers to any of your questions about losses you may have suffered in note-linked structured products and/or any related matter.

Client Reviews
Robert Pearce is part of that unusual breed of lawyers that are able to create empathy with clients and thoroughly adopt their cause. No half efforts here. He and his group of professionals are outstanding strategists that can execute with precise fervor and unyielding determination. Theirs is a huge wave of facts, research, precedents and preparation, that has impressed me in its thoroughness and creativity, and most importantly with the results. No stone goes unturned and no effort is ever spared. In my book, he and they are those of a very rare kind that one wants to keep for a very long time. Ramon F.
This law firm is the real deal. We were so lucky that they took our case as they have so much experience in securities and all the wrongdoing that happens in these investment companies where they mislead you and your money (as in our case) into schemes that are not what you think they are. Mr. Robert Pearce is one of the best lawyers around, a truly professional who will fight for you and will tell you as it is all the time. Astrid M.
Mr. Pearce is a great professional and attorney. He led me through every step of the process in a clear, direct and straightforward manner. I highly recommend him as a securities attorney. Rey S.
Just like the song from HAMILTON, it's so nice to have Bob Pearce on your side. He is the consumate plaintiff's lawyer: smart. dedicated, fully able to try a case but a great negotiator in a mediation. He did a wonderful job for us, fully supporting us through the process and more than holding his own against a large national law firm. Maurice Z.
No lawyer except Bob said I had a chance of winning. When Ubs lawyers laughingly offered me zero to settle the dispute, Bob became even more determined to prove everybody wrong. Bob was extremely prepared, and always a step ahead of the opposing attorneys throughout the arbitration. In the end, Bob and I had the last laugh when the arbitrators awarded me almost 6 million dollars. J. Blanco