Structured notes are a type of debt security that combines a fixed-income payment with a derivative. They are typically issued by banks, broker dealers, and other financial institutions. The derivative component of a structured note is based on the performance of an underlying asset, group of assets, or index, such as stocks, bonds, currencies, commodities, or even a basket of these.

The structure of a structured note depends on its issuer. Some structured notes have a fixed payoff schedule, while others may have adjustable payoffs based on the performance of the underlying asset. Some structured notes may also include protection for downside risk, such as a redemption cap, or a principal-protection feature. Investors purchase structured notes because they provide access to investments that would otherwise be unable to access or expensive to gain exposure to.

Structured notes typically offer higher yields than other debt investments, such as bonds and certificates of deposit (CDs). The higher returns are intended to compensate investors for the additional risk associated with structured notes. These risks include market risk, liquidity risk, and default risk. Market risk is the risk that the price of the underlying asset or index will fall, resulting in losses for noteholders. Liquidity risk is the risk that investors will not be able to sell a note before its maturity date, either because of limited market demand or if it’s a new issue. Credit risk is the risk that the issuer will fail to make contractual payments.

Although structured notes can offer investors high yields and potentially attractive returns, they are often complex investments with unpredictable payoffs. To mitigate the risks, investors should review the terms of the structured note before investing and be aware of the risk associated with any derivatives exposure. Ultimately, investors should remember that structured notes involve an inherent degree of risk, and should not invest any more than they can afford to lose.