Chapter 32: Structured Products 633 
does. The problem for the short seller of the PER CS is that he has to pay a lot for 
the imbedded call that affords him the protection from upside risk. The actual price 
that he has to pay is the dividends that he, as a short seller, must pay out. But this can 
also be thought of as having purchased a long-term call out-of-the-money as protec­
tion for a short sale of common stock. The long-term call is bound to be expensive, 
since it has a great deal of time premium remaining; moreover, the fact that it is out­
of-the-money means that one is also assuming the price risk from the current com­
mon price up to the strike of the call. Hence, this out-of-the-money amount plus the 
time value premium of the imbedded call can add up to a substantial amount. 
This discussion mainly pertains to shorting a PERCS near its issuance price and 
date. However, one is free to short PERCS at any time if they can be borrowed. They 
may be a more attractive short when they have less time remaining until the maturi­
ty date, or when the underlying common is closer to the redemption price. 
Overall, one would not normally expect the short sale of a PERCS to be vastly 
superior to a synthetic put constructed with listed options. Arbitrageurs would be 
expected to eliminate such a price discrepancy if one exists. However, if such a situ­
ation does present itself, the short seller of the PERCS should realize he has a posi­
tion that is the equivalent of owning a put, and plan his strategy accordingly. 
DETERMINING THE ISSUE PRICE 
An investor might wonder how it is always possible for the PERCS and the common 
to be at the same price at the issue date. In fact, the issuing company has two vari­
ables to work with to ensure that the common price and the PERCS issue price are 
the same. One variable is the amount of the additional dividend that the PERCS will 
pay. The other is the redemption price of the PER CS. By altering these two items, 
the value of the covered write (i.e., the PERCS) can be made to be the same as the 
common on the issue date. 
Figure 32-7 shows the values that are significant in determining the issue price 
of the PE RCS. The line marked Final Value is the shape of the profit graph of a cov­
ered write at expiration. This is the PERCS's final value at its maturity. The curved 
line is the value of the covered write at the current time, well before expiration. Of 
course, these two are linked together. 
The line marked Common Stock is merely the profit or loss of owning stock. 
The curved line (present PERCS value) crosses the Common Stock line at the issue 
price. 
At the time of issuance, the difference between the current stock price and the 
eventual maturity value of the PER CS is the present value of all the additional divi­
dends to be paid. That amount is marked a1/11e vertical line on the graph. Therefore,