Principal Protected Notes

Does anyone have any experience they would like to share with Principal Protected Notes?

I want to ensure I am considering all the risks.

As far as I can see, the PPNs are compliant with the Community Charter since you are purchasing a strip bond and not the equities. I think the major risk would simply be interest rate risk. If the bond market changes and you need to sell, you could experience a capital loss. This risk can be eliminated by holding to maturity.

Comments

  • Nothing is truly 100% totally safe. My understanding is that PPNs are not "guaranteed" by the Canada Deposit Insurance Corporation:
    https://www.cdic.ca/about-deposit-insurance/whats-covered/principal-protected-notes-ppn/

    Another thing to consider with PPNs is that they tend to be tied to more of the dividend paying corporations. As such, the reality of stock appreciation on a dividend paying company(ies) tends to be lower.

    For me I find PPN's more speculative in nature but I suppose the same argrument could be made with any product that can have anuncertain final settlement (MFA investments vs GIC) . I would want to fully research these or any products as they may be subject to "bail-in" legislation (forced conversion of defaulted bank into their common stock) -> which is not permitted under Section 183 of the Community Charter.

    I thought I heard that step-up notes were subject to the "bail-in" legislation so perhaps we are no longer able to invest in these?

  • Some debt securities are specifically excluded from the application of the Bail- In legislation. Principal protected Notes (PPN) are a retail product and as such are not subject to Bail-In. The Federal Government did not want to subject unsophisticated retail investors to the risk of Bail In.
    From a risk perspective, it is impossible to generalize, one would need to look at the terms of the note carefully. But once you own the notes, the main risks would be mainly credit risk (the bank issuing the note), interest rate risk (depending on the type of note) and changes to the market for the underlying index (for example changes in absolute level and volatility of the underlying option or derivative).
    PPN's are fairly complex financial instruments which makes the risk of paying the wrong price for the note a high probability. If you can't check the pricing or value the note yourself, especially the embedded derivative, then it is highly likely you will overpay. In other words, their is little to no transparency in what is being charged for the derivative.

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