Structured notes can offer investors access to a sophisticated equity strategy
Key takeaways
- Growth notes have an option strategy-like structure, allowing exposure to an equity instrument while putting a cap on the upside and a floor to the downside. Income notes offer quarterly coupon payments contingent on the performance of the underlying asset.
- They are usually appealing to investors looking to profit from positive equity performance but finding comfort in more limited volatility.
- Yieldstreet is currently offering both income and growth notes, both – in our view – appropriate for the current market cycle, but intended for investors with different risk appetite.
A growth note is a financial instrument with a payout based on the performance of an underlying equity. Growth notes pay equity upside at the end of the term of the note, up to a limit, while also capping the downside.
These notes are usually structured and issued by investment banks, and are constructed to mimic sophisticated option strategies that institutional investors tailor to specific market conditions. They work particularly well in a cycle of high market volatility, as they can help protect investors against large fluctuations.
The payout of a growth note is similar to that of a protective collar option strategy, where an investor buys the underlying stock (for example, Meta) at $100, sells a call option (pledges to sell the stock) at $130 and buys a put option (has the right to sell the stock) at $70. It can be summarized in the graph below:
Income notes are more similar to fixed income securities, as they offer a coupon based on the equity performance. While the investor is exposed to the risk of potential default, negative equity performance will not be reflected in the loss of principal.
Structured notes risks
While all structured notes specifically limit the risk of losing the principal, their limited upside can be a potential drag if the underlying instrument – the equity – posts strong growth. Indeed, the main feature of equity exposure is unlimited upside potential, and an investor buying these notes should be aware that they won’t be able to profit from that.
In a less volatile market, this strategy is also less effective as it requires a premium that would effectively go to waste. Indeed, if equity moves are subdued, there is no use for a cap even as the investor is still paying for it.
Both growth and income notes, while differing in the structure – income notes offer more downside protection but more limited upside potential – expose the investor to the potential default of the issuer.
Yieldstreet and Income Notes
Yieldstreet offers both income and growth notes, which, in our view, can be appropriate instruments for investors looking to allocate in this volatile market cycle.
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2 Represents an average net realized internal rate of return (IRR) with respect to all matured investments in your portfolio, utilizing the effective dates and amounts to and from the investments and net of management fees and all other expenses charged to the investments. Past performance is not a reliable indicator of future results and should not be relied upon as the basis for making an investment decision. All securities involve risk and may result in significant losses, including the loss of principal invested.[read more]