Principal Protected Notes (PPNs)
The Canadian Securities Administrators (CSA) defines a Principal Protected Note (PPN) as follows:
A Principal Protected Note, or PPN, is an investment product that consists of two parts.
One part is an investment that promises to return to you the original amount you invested in the PPN, usually after a six to ten year period. A third party, called the guarantor, guarantees the amount you will receive.
The second part of the PPN is a market-based investment, usually linked to a market index, a fund, or another investment product that offers the potential – but not a guarantee – of a profit on your investment.
PPNs (also commonly referred to as Equity-Linked Deposit Notes or Equity-Linked Return Notes and are similar to Market-Linked Guaranteed Investment Certificates) are essentially a debt security issued by an agent with repayment of the investment’s principal guaranteed by a financial institution. Most of the time the agent and financial guarantor are one and the same.
In 2008 the Canadian Securities Administrators (CSA) determined that federally regulated financial institutions issue the majority of PPNs, primarily Schedule I Schedule II banks. The CSA also noted that approximately 70% - 80% of PPNs are marketed by Canadian Investment Dealers, and members of the Mutual Fund Dealers Association of Canada sell another 10%.
The most recent study by the CSA published in the spring of 2005, estimated that as of December 31, 2004, $21.0 billion in assets was invested in PPNs. Approximately $15.7 billion in Market-Linked GICs and $5.3 billion in Market-Linked Notes. The $21.0 billion invested compares with their estimate from 1999 that $9.4 billion was invested in market-linked instruments.
In their notice dated August 31, 2010, the Investment Industry Regulatory Organization of Canada (IIROC) estimated that 96% of PPNs were owned by individual investors and the balance were held by corporations.
Today there are over 1,000 issued PPNs outstanding. This compares with just over 600 outstanding issues in 2007.
Note: Investors that own PPNs should be aware of the following:
- Even though a PPN may be issued and the principal guaranteed by a financial institution, PPNs are not classified as deposits as defined under the CDIC Act, and therefore they do not qualify for deposit insurance through CDIC. A PPN is a promissory note and so does not qualify as a deposit under the definition used by CDIC.
- One fundamental difference between PPNs and deposits is that most PPN transactions are recorded and traded through CDS Clearings and Depository Services Inc. (CDS), whereas deposits insurable by CDIC must be recorded on the books of the institution in the name of the depositor and they are usually not traded. In addition, most PPNs are issued with a maturity date greater than five years making them ineligible for CDIC coverage.
- The fact that PPNS do not qualify for CDIC coverage because they trade though a clearing system (rather than recording the transaction on the books of the issuer) may be more a case of semantics, as the CDS system is owned and operated by the same financial institutions that issue and guarantee the PPNs. CDS acts as a custodian of securities for federally incorporated institutions (such as banks, trust and loan companies, insurance companies and pension funds).
PPNs are not classified as deposits and they are not classified as a regulated security.
- These types of investments are sold without the stringent disclosure requirements (Prospectus) of regulated securities.
- Because federal banks guarantee the majority of PPNs, these types of investments are shielded from provincial securities commission supervision and they are not held to the same standard of disclosure as regulated securities. For example, unlike regulated securities that are required to publish an accompanying investment prospectus, PPNs simply issue Summary Information Statements, which adhere to a much lower standard of disclosure.
- With the newer, more stringent disclosure rules imposed by the Federal Government Department of Finance, the CSA, and the IIROC on July 1, 2008, greater disclosure by financial institutions that issue PPNs is required, but not to the same standard as a regulated security.
Below is list of website links to a number of PPN issuers that can provide detailed information on past and current PPN issues:
Financial Consumer Agency disclosure: Financial Consumer Agency of Canada’s disclosure notice outlining the information issuing financial institutions must tell you before you invest in a PPN.
GlobeFund can help you to research and compare PPNs by using their fund filter – “Asset Class” = Miscellaneous – Other".
Investor Watch: Principal Protected Notes (PPNs) - Canadian Securities Administrators (CSA)