“Auto-callable” notes are structured products that are often sold as higher-yielding alternatives to bonds, which obscures the fact that investors’ potential losses are much larger and much more likely to occur than in a bond investment. But during the years 2020-22, when record low interest rates prevailed, sales of “auto-callable” notes skyrocketed, peaking at $40.1 billion in 2021. Desperate for income, investors were often sold these notes based on a sales presentation that focused on yields approaching 10% a year.

But these high stated yields can be misleading for a simple reason- the investor actually receives the stated and advertised yield only under certain conditions. If the price of the referenced stock rises above the referenced stocks price at the time of issuance, the notes are “auto-called” and the income yield ceases. By called, it is meant that the note is bought back from the investor by issuer. Once the note is called the investor receives no more distributions and essentially breaks even on the investment, except for any distributions that he or she may have received to date.

If the price of the referenced stock falls below a certain level (often between 60-75% of the referenced stock’s price when the notes were issued), yields also cease unless and until the price of the referenced stock rebounds to above this so-called “coupon barrier” price. Thus the referenced stock must stay within a “Goldilocks”-style trading range- neither rising nor falling “too much”- for the investor to receive distributions.

It is bad enough that much of the time, investors do not even received the advertised yield because the referenced stock’s price is either too high or too low. But worst of all, and often not fully and fairly disclosed to investors, if the referenced stock falls below a certain level referred to as the “knock-in” price (sometimes for example 50% of the price of the time that the “auto-callable” note is sold) investors then lose a sum of money equal to approximately the entire loss in value of the stock itself. Therefore, if the stock crashes and stays at a low price immediately after purchase, auto-callable notes may result in the loss of the entire principal invested. For example, investors lost nearly all of their investment in a matter of days in connection with certain auto-callable notes linked to Silicon Valley Bank, which collapsed in the spring of 2023.

Taking into account all of these features, the investor is left with an investment with limited return potential and the potential for very high losses- a proposition that few investors would accept if given a balanced presentation concerning these high risk structured products.

“Auto-callable” notes pose several additional risks and drawbacks to investors, including the following:

Illiquidity. Structured notes are primarily designed to be buy-and-hold investments. While some notes have relatively short maturities, measured in months, others might extend out for 10 years or more. “Auto-callable” notes are not listed on an exchange, and there’s no guarantee of a secondary market for trading them, meaning an investor may have no realistic option to sell them at a fair price before maturity.

Pricing. Prior to the issuance of a structured note, the issuer provides an initial estimated value of the note. This value is based on an internal valuation model that prices the embedded components used to structure the note’s payoff. The initial estimated value is generally less than the price of the note, meaning that you’re investing an amount per note that exceeds its estimated value. Many “auto-callable” notes are worth only around 93-95% of the purchase price at the time of purchase.

Credit Risk. Structured notes are unsecured debt obligations of the issuer, meaning that the issuer is obligated to make payments on the notes as promised. If the structured note issuer defaults on these obligations, investors may lose some, or all, of the principal amount they invested in the structured notes as well as any other payments that may be due on the structured notes.

Commissions. These notes oftentimes have embedded commissions of over 2%.

Brokerage firms and financial institutions that have reportedly issued large quantities of at least $1 billion worth of “auto-callable” notes over the past decade include the following:

Institution Issuance

UBS $26.1 billion

Goldman Sachs $22.3 billion

JP Morgan $21.9 billion

Morgan Stanley $20.5 billion

Barclays $17.2 billion

Credit Suisse $11.5 billion

HSBC $10.5 billion

Bank of America $6.7 billion

BMO $5.5 billion

RBC $5.3 billion

Toronto Dominion (TD) $2.8 billion

CIBC $1.5 billion

Brokers are required by FINRA to only recommend investments that suit their investor’s needs. (Read more about FINRA Rule 2111: “The Suitability Rule.”) The fact that these bonds risk losing the entire principal investment makes them unsuitable for many investors. Investors who expressly stated that they wanted conservative investments should not have been placed in these high-risk notes.

Further, for investments after June 2020, brokers and financial advisors have a duty under SEC Regulation BI (84 Fed. Reg. 33318 et seq.), to act in the brokerage customers’ best interest. And must give “advice . . . that is in the best interest of the retail investors and that does not place the interest of the firm or the financial professional ahead of the interests of the retail investor.” Perhaps most notably in the case of “auto-callables” the advisor also has the obligation to consider reasonably available alternatives as part of determining whether recommending a given product to investors is appropriate. One could query whether any “income” investment that has a fixed yield, only payable under limited circumstances, and which poses the risk of the loss of the entire principal invested, is ever a reasonable recommendation when there are so many readily available alternatives without similar drawbacks.

Investors who wish to discuss a possible claim may contact a securities arbitration lawyer at Law Office of Christopher J. Gray, P.C. at (866) 966-9598 or via email at newcases@investorlawyers.net for a no-cost, confidential consultation. The firm has handled numerous cases against financial advisors who allegedly made misleading or unsuitable recommendations of alternative investments, including structured products. Attorneys at the firm are admitted in New York, Wisconsin and various federal courts around the country, and handle cases nationwide (in cooperation with attorneys located in those states if required by applicable rules).

THIS ARTICLE IS INTENDED AS ATTORNEY ADVERTISING AND IS NOT AN OFFICIAL ANNOUNCEMENT

In response to the low interest rate environment that has prevailed for a decade, many brokerage firms — including well-known wirehouses such as Merrill Lynch, Morgan Stanley, and UBS — have reportedly recommended various options strategies to their customers as supposedly safe and efficient mechanisms to enhance income. However, when stock markets turn volatile, these strategies can quickly spiral into unexpected investment losses for retail investors — as recently occurred during a spike in stock market volatility that peaked on February 5, 2018.

Despite the risks embedded in options, particularly naked options, brokerage firms like Merrill Lynch, Morgan Stanley and UBS have reportedly presented some retail investors with opportunities to engage in sophisticated, highly complex options strategies, often fraught with risk. One such options strategy, marketed in some instances as a yield enhancement strategy (or “YES”), involves writing so-called iron condors through S&P 500 derived options. In some instances, investors are steered into such strategies seeking the option premium income, without actually understanding the risks associated with options trading strategies.

When it comes to yield enhancement options strategies, perhaps the most commonly used financial instrument is the extremely well-known S&P 500 Index (“SPX”), a stock index based on the 500 largest companies whose stock is listed for trading on the NYSE or NASDAQ. The Chicago Board Options Exchange (“CBOE”) is the exclusive provider of SPX options. In this regard, CBOE provides a range of SPX options with varying settlement ranges and dates, including A.M. and P.M. settlement, weekly options and end-of-month options. Significantly, because SPX is a theoretical index, an investor who engages in options trading using SPX will necessarily be engaging in uncovered, or naked, options trading.

An iron condor is an options strategy that entails writing a series of options, typically all at once or around the same time. The iron condor structure entails writing two near money options that are short, in addition to purchasing two deeper out-of-the money options that are long. The first component of an iron condor involves selling an out-of-the money put (short put), while simultaneously selling an out-of-the money call (short call). When implementing this first component of an iron condor — the options trader is essentially hoping that between now and expiration, SPX’s trading will remain range-bound between the two strike prices — thereby ensuring that the naked options will expire worthless and the investor will profit from the option premium earned.

In recognition of the extreme risk associated with short naked options, the iron condor has a second component for purposes of risk mitigation. Specifically, the second part of an iron condor involves buying a further out-of-the money put, as well as buying a further out-of-the money call. Thus, while the first two legs of the iron condor involve two extremely risky short naked options, the third and fourth legs of the iron condor seek to mitigate that risk with less risky long SPX options. Collectively, these four options trades, or legs, make up an iron condor.

Ultimately, options strategies like the iron condor amount to bets in favor of time decay versus volatility. On the one hand, an investor can pocket options premium income in those instances where the option — which has a finite lifespan and fixed expiration and, therefore, is properly viewed as a decaying asset — goes to zero and expires worthless. However, on the other hand, periods of pronounced market volatility can quickly lead to scenarios where the option premium is dwarfed by losses due to market volatility. Recently, a volatility spike in the stock markets in early February 2018 reportedly caused substantial losses to some investors placed in so-called “yield enhancement” and other strategies premised on low market volatility.

Unfortunately, some investors have been steered into unsuitable and risky options strategies without receiving full disclosure from their financial advisor concerning the significant risks embedded in options investing and/or hedging. Investors who have sustained losses in connection with options investing may be able to recover their losses in FINRA arbitration, if the recommendation by a broker lacked a reasonable basis in the first instance, or if the nature of the investment — including its risk components — was misrepresented.

The attorneys at Law Office of Christopher J. Gray, P.C. have significant experience in representing investors who have sustained losses due to the negligence or misconduct of their broker and/or brokerage firm, including cases involving managed futures, options, and leveraged and/or inverse ETFs. Investors may contact Law Office of Christopher J. Gray, P.C. at (866) 966-9598 or newcases@investorlawyers.net for a no-cost, confidential consultation.

In one claim already filed by stock fraud lawyers, the claimant, one of Lugo’s clients, seeks to recover approximately $15 million. According to the allegations in this claim and others, Lugo reportedly recommended that his clients invest significant portions of their accounts in UBS proprietary Puerto Rico municipal bond funds and Puerto Rico municipal bonds. In addition, the amount invested frequently represented large concentrations of the total net worth of the client. Reportedly, these investments were marketed and sold as low-risk and clients were told they would be paid high, tax-advantaged dividends.

Lugo’s clients also allege that they were not warned that the UBS bond funds were highly leveraged. Lugo also allegedly recommended a UBS margin account in order to borrow funds to increase his clients’ Puerto Rico municipal bond investments. While this investment strategy was highly speculative and posed a high risk of principal loss, Lugo allegedly did not warn his clients of the risks and made unsuitable recommendations.

Reportedly, UBS Financial Services offered to buy back some shares of the Puerto Rico closed-end bond funds last month, following the funds’ significant decline in value. However, the shares will be repurchased at net asset value or below and a cap has been placed on the fund to prevent any more than 25 percent of the outstanding shares to be repurchased. According to securities fraud attorneys, the buyback program may be an attempt to discourage individual arbitration claims and actual investor recovery could be much lower than the shares’ net value.

If you suffered significant losses in UBS Puerto Rico bond funds because of the unsuitable recommendations of David Lugo or another UBS representative, you may be able to recover your losses through securities arbitration. To find out more about your legal rights and options, contact a stock fraud lawyer at Law Office of Christopher J. Gray, P.C. at (866) 966-9598 or newcases@investorlawyers.netfor a no-cost, confidential consultation.

Sold As Safe Many investors report that UBS and other brokerage firms in Puerto Rico sold these funds to investors as safe fixed-income investments. Of course, they have proved to be anything but safe, and many investors have lost much or even all of their retirement savings.

Dangerous Borrowings Against Accounts: Many investors who needed to withdraw money from their accounts for personal reasons (such as to purchase a home or fund a child’s education) have reportedly been advised to borrow money from UBS and other brokerage firms instead of selling shares in UBS Puerto Rico funds. This was very dangerous advice, because if the funds lost value, the investor’s losses would be even greater than they otherwise would have been due to the borrowings. Now that the funds have lost value, some investors have lost almost all of their investments, or even ended up owing the brokerage firms money!

Why Have The UBS Puerto Rico Funds Lost Value?: Many advisors told investors that the UBS closed-ends were safe because they were invested in safe bonds backed by the government. But Puerto Rico municipal bonds have been anything but secure of late. Since 2000, the Commonwealth has experienced an imbalance between recurring government revenues and total expenditures. In 2009, the deficit reached a record $3.306 billion. Further, as of June 2010, the unfunded public employees’ retirement accounts reportedly had an actuarial shortfall totaling approximately $25 billion. As a result of these poor fundamentals, investors are concerned about the creditworthiness of the Puerto Rico government and as a result the prices of some Puerto Rico government bonds have dropped. UBS closed-end funds have lost significant value due to their leveraged exposure to the underlying municipal bonds as well as selling pressure in the market for the funds. Shares that steadily paid dividends and appeared to maintain their value for several years have suddenly collapsed in value by 50% or more. Some investors who borrowed money from credit lines offered by brokerage firms have reportedly received margin calls and even had their UBS Puerto Rico fund shares liquidated.

Which funds are affected? Clients who invested in the following funds may wish to consider attempting to recover their losses through the FINRA arbitration process: Tax-Free Puerto Rico Fund, Tax-Free Puerto Rico Fund II, Tax-Free Puerto Rico Target Maturity Fund, Puerto Rico AAA Portfolio Target Maturity Fund, Inc., Puerto Rico AAA Portfolio Bond Fund, Puerto Rico AAA Portfolio Bond Fund II, Puerto Rico GNMA & U.S. Government Target Maturity Fund, Puerto Rico Mortgage-Backed & U.S. Government Securities Fund, Puerto Rico Fixed Income Fund, Puerto Rico Fixed Income Fund II, Puerto Rico Fixed Income Fund III, Puerto Rico Fixed Income Fund IV, Puerto Rico Fixed Income Fund V, Puerto Rico Fixed Income Fund VI, Puerto Rico Short Term Investment Fund, Multi-Select Securities Puerto Rico Fund, UBS IRA Select Growth & Income Puerto Rico Fund, Puerto Rico Investors Family of Funds, Puerto Rico Investors Tax-Free Fund, Puerto Rico Investors Tax-Free Fund II, Puerto Rico Investors Tax-Free Fund III, Puerto Rico Investors Tax-Free Fund IV, Puerto Rico Investors Tax-Free Fund V, Puerto Rico Investors Tax-Free Fund VI, Puerto Rico Tax-Free Target Maturity Fund, Puerto Rico Tax-Free Target Maturity Fund II, Inc., Puerto Rico Investors Bond Fund I.

What can I do? Attorneys are available to review possible cases involving UBS Puerto Rico closed-end funds. Investors who were not told the truth about these funds may have a claim against UBS or the firm that sold them the funds. In addition, investors who could not afford to take the risk of losing money in these funds may also have claims. Investors may fill out the form on this page to arrange to discuss their possible case. Investors may also contact the Christopher Gray firm in New York at (866) 966-9598 or newcases@investorlawyers.net for a confidential, no-obligation consultation.

Puerto Rico requires that attorneys be licensed in order to appear as counsel of record in FINRA arbitration proceedings. The Gray Firm is not licensed to practice in Puerto Rico and is offering legal advice only to investors in the states. The Gray Firm is working with Puerto Rico attorneys to advise and represent those investors who live in Puerto Rico.

Short sales occur when a security is sold by a seller that does not own it. When delivery is due, it is either purchased or borrowed by the short seller so that the delivery can be made. Regulation SHO requires that there are reasonable grounds for the broker-dealer to believe it could be borrowed and available for delivery. Regulation SHO reduces potential failures to deliver and states that broker-dealers must mark the trades as long or short. FINRA’s findings indicated that the supervisory system used by UBS was significantly flawed. Furthermore the flaws “resulted in a systemic supervisory failure that contributed to serious Reg SEO failures across its equities trading business,” according to FINRA documents.

FINRA’s investigation found that UBS Securities mismarked millions of sale trading orders, placed millions of short sale orders without locates and had significant aggregation unit deficiencies. Because of UBS’ supervisory failures, it wasn’t until after FINRA’s investigation and the resulting review of its systems and monitoring that many of its violations were corrected. According to FINRA, it wasn’t until at least 2009 that UBS’ supervisory framework was able to achieve compliance with certain securities laws, rules and regulations.

UBS consented to FINRA’s ruling but did not admit nor deny the allegations. FINRA Executive Vice President and Chief of Enforcement Brad Bennett said, “Firms must ensure their trading and supervisory systems are designed to prevent the release of short sale orders without valid locates, and properly mark sale orders, in order to prevent potentially abusive naked short selling. The duration, scope and volume of UBS’ locate and order-marking violations created a potential for harm to the integrity of the market.”

The now infamous class action suit against Lehman Brothers has its roots in the claim that the risks associated with PPNs were not disclosed to investors. When Lehman Brothers filed for bankruptcy, the principal on the PPNs — for which Lehman was the borrower — became unprotected and investors were left with unexpected losses. According to claimants in the case, they were led to believe that as long as they held them to maturity, their PPNs were 100 percent principal protected. Claimants also say they were told that as long as their underlying indices maintained their worth, the PPNs were principal protected. Furthermore, the risks associated with PPNs were not disclosed and customers were not notified of the decline of Lehman Brothers which could affect the value of the investments.

The case against Lehman Brothers deals primarily with broker misconduct in misleading investors about the safety of their investments. However, if other allegations are true and firms truly pushed PPNs at the same time that they were reducing their own PPN holdings, it is a question outright broker fraud as opposed to failure to disclose.

If you’ve invested in PPNs and believe your losses were a result of broker misconduct, contact an investment attorney at The Law Office of Christopher J. Gray at (866) 966-9598 for a no-cost, confidential consultation.

The outside advisers handling Lehman Brothers’ bankruptcy – mostly bankers and lawyers – have made over $1.4 billion for their services since Lehman Brothers went bankrupt three years ago. If you’re a Wall Street insider, Lehman Brothers, which is bankrupt and out-of-business, is a fantastic place to work.

Meanwhile, investors holding Lehman Brothers structured notes are slated to get back only about one fifth of the money they invested in the notes when the Lehman Brothers bankruptcy litigation finally winds up. Financial advisers at UBS and other brokerage firms peddled Lehman Brothers structured notes with great-sounding names like “100% principal protected” notes and “Return Optimization” notes. But for investors getting back only twenty cents on the dollar, their principal wasn’t protected and their returns weren’t optimized.

Of course, if you’re a Wall Street insider working on the Lehman Brothers bankruptcy, your principal is well-protected and your returns are fully-optimized.

If UBS sold you one of these notes, or if you’ve lost money in any Lehman Brothers note, give us a call. We may be able to help.

Here’s a list of some of the names of Lehman Brothers notes sold by UBS – –

*100% Principal Protection Absolute Return Notes Linked to the Euro/U.S. Dollar Exchange Rate

*100% Principal Protection Notes with Interest Linked to the Year-Over-Year Change in the Consumer Price Index

*Aussie Bull Notes 100% Principal Protected at Maturity

*Principal Protected Note with Enhanced Participation Linked to a Basket of Commodities

*Principal Protected Note with Enhanced Participation linked to a Global Currency Basket

*Annual Review Notes with Contingent Principal Protection Linked to the S&P 500® Index

*Partial Protection Participation Notes Linked to a Basket of Global Index Funds

*Return Optimization Securities Linked to an International Index Basket

*Return-Enhanced Notes Linked to a Basket of Ten Commodities

*Reverse Exchangeable Notes Linked to Common Stock

*FX Basket-Linked Notes

Though it may appear that the most recent UBS incident and Lehman Brothers’ collapse are different events, according to Forbes’ article, “The players may be different but the rules are the same.” The “Delta One” trading desk used by the UBS trader and ETFs he was trading have a similar concept to the Lehman Brothers Principled Protected Notes sold by Lehman and UBS and both were excessively risky. Furthermore, UBS and Lehman worked cooperatively to dump the PPNs on investors, causing them significant losses.

Since the fiasco began, claimants been victorious in almost all securities arbitration cases against UBS and recovered their losses that resulted from the Lehman Structured Product Notes. However, criminal charges have not been brought against any Lehman executives, a measure of justice that is yet to be realized. According to an article in The New York Times, this is a case in which “brokers selling complex securities that they once contended were safe and sound have saddled individual investors with billions in losses since the credit bubble burst. Remember auction-rate securities? Those were peddled to investors as just as good as cash — until they no longer were after that market seized up in 2008.”

According to the Forbes article, “The legacy of Lehman is that Wall Street’s greed trumps any sense of obligation the banks might have to their own customer.” If this is true and nothing is done to prevent situations like this in the future, an already risky investment world will continue to be a perilous one for the average investor.

Allegedly, Kobayashi established a pooled life insurance policy investment fund, Life Settlement Partners LLC, and then solicited funds from many of his UBS customers. The problem, however, arose when he began using the funds as his own personal financing for gambling debts, expensive cars and prostitutes. Starting in 2006, Kobayashi spent at least $1.4 million on these personal and frivolous expenditures.

In an effort to cover his tracks, Kobayashi then defrauded more of his UBS customers, asking them to liquidate securities and transfer the money to more of his accounts in the fall of 2008. This second theft, which amounted to $1.9 million, was committed in an effort to repay Life Settlement Partners LLC before his initial theft was discovered. Kobayashi’s wrongdoings came to light when he could not pay the life settlement policy premiums on LSP and later when clients demanded their investment returns. A complaint was issued to UBS in September 2009 in which a customer accused Kobayashi of stealing hundreds of thousands of dollars from multiple accounts, including her own. The customer’s complaint went on to claim that he had forged documents and lied directly to investors about his intentions for their money. Kobayashi has not worked for UBS since the morning after the complaint was filed, when he tendered his resignation.

Kobayashi has not admitted or denied the allegations against him, but he has agreed to settle the SEC’s charges. The amount of money he will be ordered to pay will be settled in court. However, according to the SEC, “He agreed to a permanent injunction enjoining him from further violations of Sections 10(b) and 15(a) of the Securities Exchange Act and Rule 10b-5 thereunder, and consented to the institution of public administrative proceedings against him in which he will be permanently barred from associating with entities in the securities industry.” There is no mention of whether any of Kobayashi’s clients have secured an investment attorney.