Lehman's `100% Principal Protection' Means no principle protection

[Grail]

Lehman's `100% Principal Protection' Means Pennies for Notes

Sept. 29 (Bloomberg) -- A brochure pitching $1.84 million of notes sold by Lehman Brothers Holdings Inc. in August, a month before the firm filed for bankruptcy, promised ``100 percent principal protection.''

Buyers had ``uncapped appreciation potential'' pegged to gains in the Standard & Poor's 500 Index , the brochure said. In the worst case, they would get back their $1,000-per-note investment in three years. Only the last in a list of 15 risk factors mentioned the biggest danger: ``An investment in the notes will be subject to the credit risk of Lehman Brothers.''

Lehman's Sept. 15 bankruptcy leaves holders of the notes waiting in line with other unsecured creditors for what's left of their money. The collapse has rattled Wall Street's $114 billion structured-notes business, which Lehman, Merrill Lynch & Co. , Morgan Stanley and Goldman Sachs Group Inc. , all based in New York, used to raise cheaper funding as the credit crisis drove bond yields higher. About three-fifths of the $68.1 billion sold this year were bought by individual investors, according to data compiled by mtn-i , a London-based firm that tracks the market.

``Investors are going to be a lot more concerned about the credit of the issuers of these notes,'' said James Angel :S:d1> , an associate professor of finance at Georgetown University in Washington. Until recently, ``the buyers may have been mesmerized by the bells and the whistles,'' he said.

The market for structured notes -- constructed by Wall Street firms from a combination of bonds, stocks, commodities, currencies and derivatives -- has mostly avoided fallout from the slump in sales of mortgage-backed collateralized debt obligations and auction-market preferred securities.

Hong Kong Outcry

The $330 billion auction-rate market seized up in February, when securities firms stopped supporting the auctions. The U.S. Securities and Exchange Commission , along with state regulators in New York and Massachusetts, has since forced companies, including Citigroup Inc., Merrill and Morgan Stanley, to buy back more than $50 billion of the securities from aggrieved customers. Regulators cited claims that the investments were improperly touted as safe, cash-like investments.

A similar outcry broke out in Asia last week in the structured-notes market following Lehman's bankruptcy, the largest in history. Hong Kong's Securities and Futures Commission issued a statement saying it received 960 inquiries and 170 complaints from holders of about HK$15.6 billion ($2 billion) of structured notes arranged by or linked to Lehman.

``Many of these investors are old people relying on these investments to support their retirement,'' Albert Ho :S:d1> , chairman of Hong Kong's Democratic Party, said in a Sept. 23 interview.

Lehman Bankruptcy

Lehman, once the fourth-largest investment bank in the U.S., had to file for bankruptcy after its shares plummeted on concern that the firm couldn't raise enough capital to compensate for mortgage losses. Lehman had estimated debts of $613 billion as of May 31. Holders of unsecured Lehman debt may get less than 50 cents on the dollar, CreditSights Inc. analyst David Hendler :S:d1> said in a Sept. 23 report.

Lehman spokesman Mark Lane :S:d1> declined to comment. SEC spokesman Kevin Callahan :S:d1> said he couldn't comment on whether the agency had received complaints from investors or whether it is looking into how the securities were marketed.

``The banks and brokerage firms invent a product, and they push it until it breaks,'' said Roger Robson :S:d1> , founding principal of CapTrust Financial Advisors , a consulting firm in Tampa, Florida. ``Then the regulators step in and fix it. This could easily be the next product they've got to step in and fix.''

Structured notes were first sold in the U.S. in the 1980s, according to the Web site StructuredInvestments.com , maintained by Chicago-based securities firm Incapital LLC. They're sometimes marketed as ``structured equities'' or ``hybrid financial instruments'' because they combine features of debt and equity. more...