# Your opinion - RBC Structured Notes



## jman123 (Jan 28, 2015)

Hi,

My RBC Dominion Securities guy got me to invest in RBC S&P 500 Linked Fixed US$4.25 RoC Securities (USD). 

http://rbcnotes.com/note.aspx?p2=E8510C3B-F2D3-46FA-AB17-326D8D2ACE10

It states:

4.25% coupon per annum (paid as fixed monthly RoC payments of 0.35416%). Unitholders will receive $100 at maturity if the Index has not depreciated by more than 30% on the final valuation date. Otherwise, the unitholder receives a loss equivalent to the performance of the Index.

He mentioned that it is safe in that it has never happened that the index used (S&P 500 index) never lost 30% of its value (or something to that effect).

Your opinion?

Thanks


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## Moneytoo (Mar 26, 2014)

When my husband went to see a financial advisor at TD bank last spring, he came back all excited about market linked GICs (because he wanted "something safe that pays 5%") I got suspicious, and asked a question in Garth Turner's blog. He replied with a question, "Why would you buy something stupid like that?" After some googling, I understood how they work: http://www.milliondollarjourney.com/a-primer-on-equity-linked-gics.htm - and agreed that we'd be better off buying regular GICs and index ETFs separately. What you described is basically the same thing at a different bank (and, as some other wiser people relentlessly advise, never buy anything at the bank )

Safety has its price - limited upside


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## Eclectic12 (Oct 20, 2010)

^^^^

Agreed that one can "roll one's own" more cheaply, that the formula's have gotten complicated and that the caps make them less attractive.

As for Garth's "Why would you buy something stupid like that?" - my mom who would never go along with rolling one's own so while there are better choices for the DIY types, the more limited version made her a nice chunk of change for her money in Oct 2008.


Cheers


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## Moneytoo (Mar 26, 2014)

Well, it's Garth - he calls regular GICs "brain dead" and thinks nobody should own them lol That's why I usually complement his advice with some googling (and try to use my own brain )


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## james4beach (Nov 15, 2012)

jman123 said:


> He mentioned that it is safe in that it has never happened that the index used (S&P 500 index) never lost 30% of its value (or something to that effect).


Except that the S&P 500 lost half its value TWICE since 2000.

Even leaving that fact aside, these things are a bad deal. You don't get the full upside you deserve.

Another danger is that your counterparty is a bank, RBC in this case. So you have counterparty risk; this is an unsecured debt of the bank. They have an obligation to repay you according to a contract of sorts. This is dangerous, because the bank may fail to make good on that contract. Contrary to popular belief, this does NOT require that the bank collapses. RBC can in fact survive a financial crisis, yet still fail to honour the terms of your "structured note".

Just so you know; Bay Street sees buyers of structured notes/PPNs as suckers. They carefully structure the notes so that you will lose money on them.


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## jman123 (Jan 28, 2015)

MoneyToo, thanks for the link to the article. The only thing is that in their example the interest seems to be paid at the end of term or not at all if the market does perform badly.

However this pays 4.25% and is paid monthly "(paid as fixed monthly RoC payments of 0.35416%)" so it is a different scenario. I have already received 2 payments.

james4beach, can you give me those 2 instance of the S&P loosing half its value over a 5 year period? Also, are you saying that RBC will renege on its note? 

Also, can you refer me to where this is stated "Bay Street sees buyers of structured notes/PPNs as suckers."

Thanks for the responses.


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## supperfly17 (Apr 18, 2012)

jman123 said:


> MoneyToo, thanks for the link to the article. The only thing is that in their example the interest seems to be paid at the end of term or not at all if the market does perform badly.
> 
> However this pays 4.25% and is paid monthly "(paid as fixed monthly RoC payments of 0.35416%)" so it is a different scenario. I have already received 2 payments.
> 
> ...


He said S&P lost half of its value twice in the last 15 years. Tech bubble crash and 2008/2009 I suppose.


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## Moneytoo (Mar 26, 2014)

Here's a more detailed explanation on how PNNs work: http://www.lautorite.qc.ca/en/principal-protected-notes.html .

Depending on your situation (do you need the income or just worried about not losing the principal or both?), and how much time and effort you're willing to invest - there might be a better solution. Think about it: S&P 500 can fall by more than 30% when these GICs mature. But if you hold it separately (as an ETF or an index fund) - you can keep holding it till it recovers. 

A couple of comments from the link I previously posted:

"In my opinion, market-linked GIC’s are designed to exploit naive investors who are looking for a higher return without added risk."

"I think that what people need to realize is that there is no free lunch… it is as simple as that. As soon as people understand the concept of opportunity cost… the picture gets a little clearer"


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## Moneytoo (Mar 26, 2014)

To give you some numbers to mull over:

1) My husband has 25K in People's Trust TFSA, invested in 3 installments since last May, with interest lowered from 3% to 2.5% and now 2.25%. It's a small "guaranteed portion" of our total portfolio, that earned him almost $500.

2) He also has 100 shares of S&P 500 Index ETF (VFV). He waited patiently last year and purchased it near the bottom in October. It fluctuates, as all equity funds do, and is currently up 24%. He invested $3,750 - and its current market value is $4,660. If he were to sell it tomorrow, he'd get $900 and change of profit (he also collected a few small dividends since the purchase)

We have many more holdings, but these two are an approximation of your S&P 500 linked GIC - that hopefully illustrates why the bank makes much more money than you


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## GoldStone (Mar 6, 2011)

Index-linked Notes: To Who's Advantage?


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## humble_pie (Jun 7, 2009)

interesting but also alarming how these highly engineered financial products are proliferating so much these days. Each appearing to pay an enticing rate of return in today's environment of close to zero interest rates.

investors are lured, of course, by the promise of finding something secure at better than going rates.

to properly study this creature would take hours & even then one would only arrive at a half-picture. For example, in a nearby thread discussing a pair of similar products - the DFNs - it took several knowledgeable posters many days - years even - to work up valuable insights into DFN's weak spots.

some random thoughts on cruising past this roybank structured note:

- the 4.25% guaranteed payout will be reduced by the capital gain payable on the Return of Capital markdowns of cost base if & when the product matures at par at the end of its life. In other words, the 4.25% return is an illusion, as is the case with nearly all ROC-based products.

in general, it's my understanding that high-ROC payors need to continually renew their inventories of real estate, oil wells, whatevers, otherwise the continuous ROC distributions will drain the fund down to nothing. Other parties in cmf - eclectic for example - have expert knowledge about this feature, me i'm just a dumb crumb.

what options to renew the underlying securities exist, deep in the depths & bowels of this product? does anyone have the time to investigate? did the original salesman investigate? alas, it's rather more likely that the original salesman has no clue ...

- i have a smattering of option knowledge, enough to see that this creature is packed with a complex inventory of calls & puts - or derivative equivalents - that will load any bad loss directly onto investors, meanwhile permitting the issuing bank to squeak through with whatever smidgin of profit they have already built into the structure for themselves.

jman i am wondering if there would ever be any opportunity to sell this product before maturity? i suspect the answer is a flat No.

you have already bought the product & i think the probability of a disaster crash is low. I do believe you will be fine (perhaps inquire about final taxation at maturity, though, after the ROC payments have adjusted the cost base downwards.)

the value of this exercise is that now you have a little warning to perhaps not go overboard on these products!


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## londoncalling (Sep 17, 2011)

My wife bought a similar product just recently. I suggested an ETF in its place. I know market linked GICs are a poor investment choice for most investors but I viewed it this way (on occasion I allow myself to not have to prove that I am right).

It was her first foray into any product other than a GIC.
She is extremely risk adverse.
I expect her return to outpace a GIC and this small victory may convince her to take more risk with future investments.

For the most part this small purchase won't matter much in the big scheme dollarwise.

We will have a large nest egg at retirement if we stay on the current course (both have DB pensions and still are putting moneys into RRSP and TFSA as well as maxing RESP). The reason we are putting a large amount into retirement is that we want to have a large say in when and how we leave the workforce. 

I had a conversation about retirement with a couple of friends this week about the magic number in the bank I would need. They were surprised when I said I would be comfortable with $1 000 000 plus paid off home between me and my spouse. They are much older than I and will be retiring/semi retiring in the next few years. They come from the era when FREEDOM 55 was the en vogue retirement goal. I am certain I can get by on way less than $1 000 000 but it is nice to set a target. As of now I plan to work another 25+ more years so a lot can change in that time frame. Sorry for taking the thread off topic but sometimes my fingers like to ramble on across the keyboard. : )


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## Moneytoo (Mar 26, 2014)

londoncalling said:


> It was her first foray into any product other than a GIC.
> She is extremely risk adverse.
> I expect her return to outpace a GIC and this small victory may convince her to take more risk with future investments.


"Be careful what you wish for" lol I remember our spouses were similar in this regard last year, but now I have the opposite problem - when my husband saw some of his stocks and ETFs going up 10-30% within months, he decided that we don't need any GICs and bonds, just equities! So now I have to be the more careful one (and it took me more than a month to convince him to buy a strip bond! )


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## londoncalling (Sep 17, 2011)

Thanks for the warning. It is a possibility. The bright side is our work pensions are much larger than our rrsps and tfsas. We can afford to be a bit risky. I would be all in favour of a couch potato portfolio for the mrs. Perhaps she will give me the green light to move the resps into something a little more equity based.

Cheers


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## Eclectic12 (Oct 20, 2010)

humble_pie said:


> interesting but also alarming how these highly engineered financial products are proliferating so much these days. Each appearing to pay an enticing rate of return in today's environment of close to zero interest rates.


Personally ... I'd want some numbers that showed a big take up before I would be alarmed. Bear in mind that the market linked GIC I used was in 2000 and reading the posters in the local credit union advertising market link notes - the products themselves are not new. I did notice that this particular RBC note on is


> NOT PRINCIPAL PROTECTED


 whereas the CU posters were touting that their were principal protected so that worst case scenario was one's capital back.

I'm wondering if there's been an ebb and flow to the popularity/salesmanship to the products.


IAC ... outside of my roommate & I, I couldn't find anyone at the time who was willing to consider a market linked GIC - never mind dig into the details of how it paid out or what restrictions were on the payout.


Cheers


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## Moneytoo (Mar 26, 2014)

londoncalling said:


> I would be all in favour of a couch potato portfolio for the mrs. Perhaps she will give me the green light to move the resps into something a little more equity based


Looks like BoringInvestor has a good plan: http://canadianmoneyforum.com/showthread.php/45330-RESP-tracking-couch-potato-investing 

(I was managing our daughter's RESP, it was all equity Mutual Funds till the last withdrawal - she's graduated this spring and is now traveling the Europe for 3 weeks with 10K leftovers  In my defence, until last year I thought that GICs and bonds are for retired people only! lol)


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## jman123 (Jan 28, 2015)

Unfortunately I did not do enough research into the product before I gave my advisor the go ahead. 

Humble_pie , when you talk about the capital gain payable does that apply since this is within my RRSP? 

I didn't ask about selling the product prior to maturity although I see that there is a DSC at different times. 

Thanks.


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## humble_pie (Jun 7, 2009)

jman123 said:


> Unfortunately I did not do enough research into the product before I gave my advisor the go ahead.
> 
> Humble_pie , when you talk about the capital gain payable does that apply since this is within my RRSP?
> 
> ...




what good news re the RRSP. No tax until you eventually - many long years from now, i hope - begin to make mandatory withdrawals from an rrsp that has been converted into a rrif.

overall i think you will likely be fine. It makes no sense for the big chartered banks to risk damage to their reputations by creating excessively risky products that could trigger problems for many retail investors. While riskier products might be a tad more profitable for an issuing financial institution, any resulting glare of bad publicity if one product should crash & burn would harm them more, imho.

i'm assuming that a venerable institution such as the royal bank would tend to create middle-of-the-road products, ie products with an acceptable profit for themselves built into the structure as a fixed obligation, but also providing at least a fair shake for retail investors. 

looking a bit more closely into your Note, i see that its only market is an internal RBC desk. This would mean, i assume, a crippling spread between the bid (what you would receive if selling) & the ask. In addition there are deferred charges for an investor who would choose to sell before maturity. These realities mean no active public market for RBC's notes & therefore no practical opportunity to sell.

i think the real benefit to be gained here is a deeper understanding of these products & therefore better chances of avoiding them in the future, or at least choosing as wisely as possible. This is not to say you haven't chosen wisely, more to suggest that perhaps not to rush to purchase more of these creatures.

jman, you do realize that your note also entails a bet by yourself on USD/CAD exchange rates 5 years from now? It's a US dollar denominated note, so in a sense you are betting that the canadian dollar will not strengthen too much by that maturity date 5 years hence.


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## jman123 (Jan 28, 2015)

Yes humble_pie I am aware that it is in US funds. Actually I was not pleased with that since it was bought when the Canadian dollar was at 80 cents US and I thought that it wouldn't go any lower and that any gains would be lost if the Canadian dollar goes up to par with the US dollar.

Like you said when he mentioned that this was a RBC product I thought that RBC being so big it couldn't fail (not unless they want their customers to desert them) and was safe. Again , also lured into the 4.25% rate.

When I started reading about ETF's here and in the MoneySense magazine I just subscribed to I mentioned to my advisor that I wanted ETF funds. So he put me into the following:

Powershares QQQ Trust
SPDR S&P ETF Trust 

but also in US dollars!?! Why, I should have asked :upset: 

My problem is saying NO. It's almost like when your car mechanic calls to tell you that something else needs to be replaced and you say go ahead without investigating further. You think they know what's best for you. I guess that's why there is so many billions in Fidelity, etc...

Right now, I have about 20 different funds (AGF, MacKenzie, Fidelity,IVY). If I exclude the spousal RRSP where I was contributing $325 weekly (and now only $125 where the rest is investing in Tangerine TFSA Balanced Portfolio fund) I made approximately 8.6% in 2014, 13.9% in 2013 and 6.2% in 2012. 

I am tempted to go the Couch Potato Portfolio route. Sometimes I read that not all non-ETF mutual funds are bad and that you have to pick and choose. I have to revisit what kind of performance each of my funds are doing and see if I should fly solo or just guide my advisor more.


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## james4beach (Nov 15, 2012)

My rule of thumb is to avoid anything complex or non-obvious. PPNs, stock-indexed GICs, preferred shares, dual-class shares, structured notes are all quite complex and very difficult to figure out.

Whenever you encounter something that's difficult to decipher, you have to realize the central reason it's difficult: the contract and structure has been intelligently crafted to be advantageous to the vendor. *If it's difficult to figure out, they have probably designed it to be in their favour, and to your disadvantage.*


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## humble_pie (Jun 7, 2009)

i believe that this Note was actually created for income-seeking investors who wish to hold a USD income security in non-registered that would be favourably taxed, but they are facing 2 big challenges.

these challenges being 1) US interest rates are near zero, while 2) dividends from US stocks are 100% taxable as straight income in the hands of canadian investors.

this roybank Note is a vehicle that basically converts US dividend income into favourably taxed capital gains, by paying out nothing but ROC.

it's a neat concept. It's even neater for royal bank because they've built a put for themselves into the structure. It's true they'll hold exposure to US dividend paying stocks while flowing some of the revenues through to the ultimate retail investors as ROC payments.

but if Oops happens & the S & P 500 collapses beyond a certain percentage, roybank can put the entire loss onto these same investors.


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