Investors Are Suffering Predicted Losses From Apple-Linked Structured Notes

Back in February of this year, we wrote about reverse convertible notes tied to the performance of Apple stock. We told you then that if you were one of the thousands of investors who bought these Apple-linked products, the big downturn in the price of Apple could result in a very unpleasant surprise. Why? Because when your note matures, you’ll be paid in Apple shares rather than getting back your initial principal investment. Apple shares are likely to be worth far less than the amount you invested in the note.

As it happens, a number of these products have matured this month. Here are two examples.

  • On September 20, 2012, Royal Bank of Canada issued one-year Reverse Convertible Notes linked to Apple. Each note required a principal investment of $1,000 and paid annualized interest of 10.25%. At maturity on September 20, 2013, investors were to get back their $1,000 principal investment for each note unless Apple’s stock closed on the Valuation Date (September 17, 2013) below the Initial Stock Price of $699.80 [which it did] and Apple’s stock had ever closed at or below $559.84 during the one-year term of the notes [which it had.] Thus, instead of receiving $1000 per note at maturity, investors were to receive 1.43 shares of Apple stock per $1000 invested ($1000 face value divided by $699.80 = 1.43). Apple closed at 467.41 on September 20th, meaning investors were to get back 1.43 Apple shares per note, worth $668.40 ($467.41 x 1.43). This investment thus has produced a principal loss of 33%. Accounting for interest, (but not for internal fees and commissions), the net loss was around 23%.
  • On September 26, 2012 (one year ago yesterday), UBS issued one-year Trigger Yield Optimization Notes linked to Apple at $700.71 per note. These notes paid monthly coupons at an annualized rate of 8.03%. The notes were structured to repay the full $700.71 at maturity, unless the price of Apple stock on the valuation date (September 21, 2013) was below $595.60. The price per share on that date was well below that figure, and thus, investors will not be repaid their principal investments of $700.71 per note. They instead will receive Apple shares valued at yesterday’s close of $486.22. This is a principal loss in the neighborhood of 31%. Accounting for 8.03% interest received (but not for internal fees and commissions), the net loss will be around 23%.

As we noted in our February entry, an investor buying a note linked to the performance of a reference stock, whether Apple or some other company, is in the same position as someone who sells a cash-secured “naked” put option on that reference stock. But many people who were persuaded to buy an Apple-linked note did not know that they were selling a “naked” put option on Apple stock. Moreover, in a market paying only around 1% on other types of fixed income investments, buyers likely also didn’t understand that the seemingly generous return of 8% or 10.5% return was grossly insufficient to justify the risk of selling a naked put option. Finally, because the option was embedded in the investment, the investor will not have received the benefits of any of the safeguards and supervision ordinarily required in options transactions.

We won’t go into all of the negative aspects of these products. You can read about those in our February post. We’ll just remind you that the Financial Industry Regulatory Authority warned broker-dealers back in 2010 that reverse convertibles aren’t suitable for most individuals, and that brokers should only offer these investments to a very select group of investors and only in conjunction with full and fair disclosure. If you got burned by one of these Apple-linked structured notes or by reverse convertibles linked to other companies and benchmarks, don’t be a passive victim. Call us. Contact Hugh Berkson  at (866) 932-1295, or reach us through the consultation form on the right of this page. We’ve helped hundreds of aggrieved investors. Talk to us about how we can help you.