PPNs

What is a Principal Protected Note?

It is an investment where you are in effect turning a long term investment risk into a short term investment risk. You are betting that not only will the investment do well - but more importantly that it will do well up front. If it doesn't do well in the early years then your investment will be turned into just enough bonds to return your money by the end of the guarantee period.

More specifically it is an investment in a program that reinvests in a specified high return investment(s) and guarantees that if the investment doesn't continue to do well that you will get your original money back at the end of the term, usually 5- 10 years. The best of both worlds. Potential high returns - no chance of loss.

The ability to limit your loss to $0 comes at the expense of losing your ability to hold through the recovery after short term poor returns. Even then you need to hang on until the end to get the guaranteed return of capital.

If you are interested in the details read on.

What is it.

• It is an investment vehicle sold by a promoter - could be a bank but may not be.

• It is guaranteed by a bank or insurance company to return your original investment at some date in the future - usually 5 to 10 years.

How does it work?

• You buy from the promoter. They give your money to the guarantor, who invests it based on specifications established by the promoter and shown in the literature you would have been given.
  

• Sometimes additional investment amounts are added by using a loan. For example for every $1.00 you invest there may be an actual investment on your behalf of $1.50 and an offsetting $0.50 loan against the investment.
  

• On an ongoing basis the value of the investment is compared with a schedule of minimum values which the guarantor uses to determine if it is necessary to start selling the high return investment. The money would be used to paying back the loan and buying specified bonds instead. If the investment falls too low the guarantor is required to replace the entire investment with bonds. Once bonds have replaced the original investment you will get your money back at the end of the guarantee period - BUT YOU WILL NEVER gain if the original high return investment recovers.

Here is the good part.

• You can earn a high return if the underlying investment does great. Because there is often a loan and extra investment you can do even better than the underlying investment.

Here is the bad part.

• Most high return investments are very irregular. Often they have some negative return years offset by huge positive return years. An average of 15% return is usually more like 30% one year and -10% another.
  
• What this means is that the longer you can hold the investment the better your chances of you earning its long term average.
  
• But if you may need to sell in a short period - say within 3 years - your chances of losing are far greater than if you can stay invested long term.
• Unfortunately, the PPN guarantor may be forced to sell in the short term if a bad year or two happens in the early part of the investment. So in effect you are increasing the risk that you may only earn 0% - rather than riding through the temporary poor market.