FOM Fachhochschule für Oekonomie & Management Essen
&
Avans + Breda
Study program in
Business Economics
Diploma Thesis/Bachelor Thesis
in partial submission of the Degree in
Diplom-Kaufmann (FH)/
Bachelor of Business Administration
Analysis and Valuation of Bonus Certificates
Author: Jess
Puthenpurackal
Essen, 25 September 2008
I
Table of Contents
Table of Contents ... I
Tables and Figures ... III
List of Abbreviations ... IV
1 Introduction ... 1
1.1 Problem Definition ... 1
1.2 Procedure... 2
2 Basics ... 3
2.1 Definition of Certificates... 3
2.2 Components of Certificates ... 4
2.2.1 Fixed Income Securities ... 4
2.2.2 Stocks ... 5
2.2.3 Standard Derivatives ... 7
2.2.3.1 Options ... 7
2.2.3.2 Futures ... 10
2.2.4 Exotic Options ... 11
3 Benefits of Bonus Certificates ... 13
3.1 Investors ... 13
3.2 Issuers ... 18
3.3 The German Bonus Certificates Market ... 19
4 Characteristics of Bonus Certificates ... 24
4.1 Description of Bonus Certificates ... 24
4.1.1 Underlying ... 24
4.1.2 Conversion Ratio ... 25
4.1.3 Barrier ... 25
4.1.4 Bonus Level ... 26
4.1.5 Maturity ... 27
4.1.6 Default Risk ... 28
4.1.7 Costs ... 29
4.2 Design of Bonus Certificates ... 31
4.2.1 Zero-Strike-Call ... 32
4.2.2 Down-and-Out Put ... 33
4.2.3 Payoff-Profiles ... 34
II
4.3 Pricing of Bonus Certificates ... 36
4.3.1 Black-Scholes-Model ... 36
4.3.2 Underlying ... 40
4.3.3 Volatility ... 43
4.3.4 Dividends ... 44
4.3.5 Interest Rate ... 46
4.3.6 Maturity ... 47
4.3.7 Divergence of Pricing: Fair Value Secondary Market ... 49
4.4 Taxation... 50
4.5 Special Forms of Bonus Certificates ... 52
4.5.1 Capped Bonus Certificates ... 52
4.5.2 Quanto Bonus Certificates ... 54
4.5.3 Reverse Bonus Certificates ... 56
4.5.4 Multi Bonus Certificates ... 58
5 Empirical Analysis ... 60
5.1 Dresdner Bonus-Barrier-Certificate I ... 60
5.1.1 Description ... 60
5.1.2 Design ... 60
5.1.3 Pricing ... 61
5.1.4 Taxation... 62
5.2 AGI Bonus Barrier Fund ... 63
5.2.1 Description ... 63
5.2.2 Design ... 64
5.2.3 Pricing ... 65
5.2.4 Taxation... 66
5.3 Comparison: Dresdner Bonus-Barrier Certificate AGI Bonus Barrier ... 67
5.4 Impact of current Stock Exchange Collapse on Bonus Certificates ... 68
6 Conclusion ... 71
Bibliography ... 75
III
Tables and Figures
Figure 1: Dax Performance Index vs. DivDAX Performance Index ... 6
Figure 2: Long Call... ..................................................................................................... 8
Figure 3: Short Call... ............................................................................. 8
Figure 4: Long Put... ............................................................................................ 9
Figure 5: Short Put ... 9
Figure 6: Efficient Frontier ... 16
Figure 7: Open Interest - Volume of retail certificates ... 20
Figure 8: Payoff profile Down-and-Out Put ... 34
Figure 9: Asymetrical Payoff Profile of a DaOP ... 42
Figure 10: Impact of Volatility on DaOP ... 43
Figure 11: Payoff Profile Zero-Strike-Call ... 45
Figure 12: TUI ... 46
Figure 13: Impact of Maturity on DaOP ... 48
Figure 14: Payoff Profile Capped Bonus Certificate ... 54
Figure 15: Interest rate level ... 56
Figure 16: Payoff Profile Reverse Bonus Certificate ... 57
Figure 17: Dresdner Bonus Barrier Certificate ... 62
Figure 18: First Payoff Profile AGI Bonus Barrier ... 65
Figure 19:Second Payoff Profile AGI Bonus Barrier ... 65
Figure 20: Third Payoff Profile AGI Bonus Barrier ... 66
Figure 21: VDAX Volatility Index ... 69
Table 1: Payoff-matrix of a Bonus Certificate ... 17
Table 2: Market shares for investment certificates (Market Volume) ... 21
Table 3: Open Interest Volume December 2007 and May 2008 ... 22
Table 4: Market share Bonus Certificates ... 23
Table 5: Rating of Issuers ... 29
Table 6: Value Drivers for Hedge/ Quanto Costs ... 55
Table 7: Bonus Certificates with Barrier Violations ... 69
Table 8: Pricing Bonus Certificate ... 72
IV
List of Abbreviations
§
Paragraph
>
Greater-than
<
Less-than
Greater-than
or
equal
to
Less-than
or
equal
to
For all
=
Equals;
is
equal
to
Delta
Rho
Theta
Lambda
Vega
Standard
deviation
Expected return
Sum of
AGI
Allianz
Global
Investors
B
Barrier
BC
Bonus
Certificate
BL
Bonus
Level
bn
billion
C
Call
CAPM
Capital
Asset
Pricing
Model
cov
covariance
D
dividend
DDV
Deutscher
Derivate
Verband
DaOP
Down-and-Out
Put
e exponential
function
EstG
Einkommenssteuer Gesetz
F
Riskless
asset
FX
Foreign
exchange
G
Gain
V
HVB
Hypo Vereinsbank
I
Performance factor
ISIN
International
Securities
Identification
Number
K
Strike price
k
correlation
coefficient
L
loss
ln
natural
logarithm
function
MIFID
Markets
in
Financial
Instruments
Directive
N(d)
cumulative
normal
distribution
function
OTC
Over
the-counter
P
Premium
PV
Present value
r
risk-free
interest
rate
RCB
Reverse
Convertible
Bonds
S
Underlying price
S & P
Standard and Poor's
T
Expiration
date
t time
to
maturity
x
stock
ZC
Zero-strike call
ZEW
Zentrum
für
Europäische
Wirtschaftsforschung
1
1 Introduction
1.1 Problem Definition
Since 1989, retail certificates have become core in the field of retail banking (Pilz
2006). Particularly, the stock crash between 2000 and 2003 has fostered the success
story of these investment products because many private investors have sustained
enormous losses with their stock exposures. Therefore, they have been looking for
alternatives to traditional investment forms which are lower in risk but gaining
satisfactory returns (Schiereck 2004).
In order to fall in line with this growing specific demand of investors, major German
banks have invented the new asset class of retail certificates. These products can offer
depositors characteristics for every market scenario as its explicit strength (Löhr and
Cremers 2007).
This booming development reached its peak in December 2007, as German private
investors hold 135 bn EUR of retail certificates in their deposits (Barthel 2008).
Because of their attractive risk-return profile, Bonus Certificates, which were issued for
the first time by the German bank Sal. Oppenheim in 2003, have gained a key position
in this sector with a market share of 21.9% (Fischer 2008). The barrage of newly issued
products has led to the circumstance that many private investors are facing the problem
of lack in transparency concerning the structure of Bonus Certificates.
The present diploma thesis intends to provide the reader an extensive overview on the
investment segment of Bonus Certificates. Thereby the author focuses on the
conception and pricing of this financial structured product in order to develop an
investment guideline for investors, how to deal with this complex derivative. In
particular, the author analyses the influence of the input factors, both on each embedded
option component and on the Bonus Certificate as a whole. Hence, investors may get a
better insight of the disproportionate valuation of Bonus Certificates over maturity.
Due to current negative market situation, the author has also a look into the impact of
issuer's default risk and barrier violation on Bonus Certificates.
2
1.2 Procedure
The present diploma thesis consists of 6 chapters. Chapter 1 covers the problem
definition and the author's procedure with this thesis.
Chapter 2 deals with the fundamental basics of this topic which comprises the definition
and the components of certificates in general. Thus, the reader is able to classify Bonus
Certificates in the complex of structured products.
Now that the fundamentals of certificates have been clarified, the benefits for investors
and issuers are discussed in chapter 3. So, the reader may understand why the examined
German Bonus Certificate market has experienced a tremendous boom over the last five
years.
With the so forth given background on the fundamentals and benefits of Bonus
Certificates, the reader is taken to chapter 4 introducing to the main part of the present
diploma thesis. Thereby the author describes the main features of Bonus Certificates
and explains how investors can exclude information from special ratios for their
investment decision. The chapter then reveals both integrated option components of
Bonus Certificate and the possible payoff profiles of the structured product at maturity.
Thereafter, the reader dives into the world of option pricing by getting to know the
theoretical background of the Black-Scholes-Model. In this context, the author depicts
the impact, of the value drivers of a Bonus Certificate, on the pricing of its option
components and the structured product as a whole. Moreover, with respect to the
valuation of Bonus Certificates, the author works out whether there exist any
divergences in pricing between the theoretical fair value and the price quoted at the
secondary market. In the last two subchapters, the author completes the main part by
illustrating the taxation and special forms of Bonus Certificates.
In Chapter 5, the author finally conducts an empirical analysis of a single Bonus
Certificate and a Bonus Certificate Fund. Both examined investment products are
presented in a certain pattern allowing the reader to capture their description, design,
pricing and taxation. The author concludes the empirical analysis of these investment
instruments with an individual comparison taking their parameters as a whole into
account. Thereafter the author focuses on the impact of the current stock market crash
on Bonus Certificates in order to give the reader a differentiated overview of
disadvantages and opportunities in such a specific market situation.
Chapter 6 covers the author's final conclusion.
3
2 Basics
2.1 Definition of Certificates
Certificates are structured financial products that combine fixed income securities,
stocks and derivatives in the form of a single security (Spremann and Gantenbein 2005).
These products can diverge much in the features they offer - from capital-guaranteed to
speculative products - from unlimited to limited maturity (Preissner 2007). Today
issuers are able to engineer certificates in large numbers of variations.
From its legal definition, a certificate is a debenture of issuer that may be lenders or
other financial institutions. Once investors purchase this securitized derivative, they turn
into creditors of the issuing bank. If the issuer were to have difficulty, meeting its
payments or become insolvent, the invested capital is not protected. Hence the holder of
a certificate also bears a creditworthiness risk (Haarengel and Scheuble 2006).
Certificates have similarities to conventional asset classes, like bonds or stocks. But in
contrast to these investments, certificates do not incorporate any steady interest or
dividend payments, because the redemption of a certificate is derived from the
performance of an underlying asset in a stipulated way (Pilz 2006).
Furthermore these derivatives differ from classic asset classes by improving investors'
risk-return profile (Löhr and Cremers 2007).
In some cases issuers manifest in their offering terms, a special right to call for
repayment. Hence they can convert structured products, with unlimited maturity into
investment with limited maturity (Schmidt 2008).
In contrast to certificates as a whole, Bonus Certificates are one of the equity-linked
structured products that built-in exotic options in its design. Bonus Certificates can be
considered as second generation of retail certificates which incorporates partial capital
protection dependent, on the price of the underlying asset, over the term to maturity of
the certificate. The yield of the investment in Bonus Certificates is also linked with the
performance of a predetermined underlying asset over a set period (Götte 2007).
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