Complicated, high-risk products have seen a surge in popularity over the last few years. Investors - wary of the stock market and anxious for returns - have been funneling more and more money into products they don't really understand, often at the advice of brokers or unscrupulous advisers who stand to make a profit on such transactions.
Unfortunately for investors, high yield always means higher risk. A fact many seem reluctant to admit, and one FINRA recently attempted to remind investors of in an August investor alert, titled "The Grass Isn't Always Greener-Chasing Return in a Challenging Investment Environment."
In the alert, FINRA advised investors to ask five key questions before investing in a high-yield product:
- Do you understand how the investment operates?
- What are the costs and fees associated with the new investment?
- Is the product callable?
- Does the higher return from the investment come with increased risk?
- Could the new investment be fraudulent?
"Legitimate investments that promise returns of 30, 50 or even 100 percent per year without any risk to your principal simply do not exist," warned FINRA. Remember: Always conduct your own background checks to verify any information you're being given throughFINRA's BrokerCheck and/or your state securities regulator. (FINRA says the answer to this will "invariably" be "yes.") "Callable" means the issuer has the option to redeem the investment prior to the investment's maturity. If the issuer decides to call the investment, "and you want to reinvest, you may find it difficult or impossible to find an equivalent investment paying rates as high as the original rate, a phenomenon known as reinvestment risk," wrote FINRA. Some products that promise higher yields, such as hedge funds and structured products, include hefty fees and hidden costs that can make it difficult to know how much you're paying. "If you do not fully understand how your investments function, you could find yourself surprised by outcomes you didn't expect, such as illiquidity, exit fees, loss of principal or the return of your investment in a form other than cash," warned FINRA.
For more information about risks and problems associated with specific high-yield products, read FINRA's alert here.