34 lines
2.5 KiB
Plaintext
34 lines
2.5 KiB
Plaintext
594 Part V: Index Options and Futures
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Cash Surrender Value = $10 x Final Value/ 1,245.27
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This shortened version of the formula only works, though, when the participa
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tion rate is 100% of the increase in the Final Index Value above the striking price.
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Otherwise, the longer formula should be used.
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Not all structured products of this type offer the holder 100% of the appreci
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ation of the index over the initial striking price. In some cases, the percentage is
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smaller ( although in the early days of issuance, some products offered a percentage
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appreciation that was actually greater than 100%). After 1996, options in general
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became more expensive as the volatility of the stock market increased tremendous
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ly. Thus, structured products issued after 1997 or 1998 tend to include an "annual
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adjustment factor." Adjustment factors are discussed later in the chapter.
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Therefore, a more general formula for Cash Surrender Value - one that applies
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when the participation rate is a fixed percentage of the striking price - is:
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Cash Surrender Value =
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Guarantee + Guarantee x Participation Rate x (Final Index Value/ Striking Price - I)
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THE COST OF THE IMBEDDED CALL OPTION
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Few structured products pay dividends. 1 Thus, the "cost" of owning one of these
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products is the interest lost by not having your money in the bank ( or money market
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fund), but rather having it tied up in holding the structured product.
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Continuing with the preceding example, suppose that you had put the $10 in
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the bank instead of buying a structured product with it. Let's further assume that the
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money in the bank earns 5% interest, compounded continuously. At the end of seven
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years, compounded continuously, the $10 would be worth:
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Money in the bank = Guarantee Price x ert
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= $10 x e 0-05 x 7 = 14.191, in this case
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This calculation usually raises some eyebrows. Even compounded annually, the
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amount is 14.07. You would make roughly 40% (without considering taxes) just by
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1Some do pay dividends, though. A structured product existed on a contrived index, called the Dow-Jones
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Top 10 Yield index (symbol: $XMT). This is a sort of "dogs of the Dow" index. Since part of the reason for owning a
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"dogs of the Dow" product is that dividends are part of the performance, the creators of the structured product
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(Merrill Lynch) stated that the minimum price one would receive at maturity would be 12.40, not the 10 that was
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the initial offering price. Thus, this particular structured product had a "dividend" built into it in the form of an ele
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vated minimum price at maturity. |