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Structured Products – Project Report
Presented by: Structured Products Project Report presented to:
Terms of the notes ........................................................................................................................................................... 3
Attractiveness of the product .......................................................................................................................................... 3
Unattractiveness of the product ....................................................................................................................................... 4
Description of Underlying Stocks Included In the Basket .............................................................................................. 5
Composition and Fair Market Value of the Notes .............................................................................................................. 5
Capital Market Assumption - Potential for growth and income ..................................................................................... 6
Construction Challenges ................................................................................................................................................. 8
Through Underwriters ................................................................................................................................................... 10
Through dealers and agents ........................................................................................................................................... 10
Through direct sales channels ....................................................................................................................................... 10
Alternative Investments .................................................................................................................................................... 10
This investment product is designed for investors that anticipate the three stocks included in the basket will grow at a
moderate rate in the next 18 months, and seek an accelerated growth that we offer. These investors will most likely be
looking to diversify their portfolio through exposure to the technology sector.
Demand
Demand will be present from investors who are moderately bullish on the technology industry in the short term, however
are unwilling to undertake substantial downside exposure. Additionally, investors who require some exposure to the
technology industry, either for diversification or speculation, but who are not very bullish on tech, will find this proposition
attractive. Through the use of our proprietary hedging and derivative implementation, our product offers 3 to 1 accelerated
upside returns, while being able to retain the same 1 to 1 risks on the downside, given that the prospective investor is willing
to sacrifice some upside through a capped return, aggressively established at 45%. This product will be sought out as it
provides an investor with the upside enjoyed by a risk-seeking individual, while limiting the downside to that appropriate
for a more risk-averse investor. It provides very attractive short-term bullish exposure to an industry, leveraging returns,
without subsequently increasing downside risk. Finally, these products can be replicated by any wealthy investors with
access to substantial capital, and therefore they are intended for average-income investors that want to have an exposure to
volatile technology stocks with a low investment required. The product’s structure would be relatively easy to replicate
given a substantial amount of capital, but this is simply not feasible for the everyday investor looking to partake in such a
great strategy. Moreover, it provides a specific exposure to a small number of volatile stocks. This product will reach
investors that are interested in investing in technology stocks, and take some risks to increase their returns. The product
provides an opportunity for everyday investors to gain exposure in a lucrative product that may otherwise not be feasible,
which will be discussed thoroughly in the benefits section.
This type of structured product, consisting of a basket featuring stocks solely in the technology industry, is not currently
offered on this market. This type of product provides many new investors with the opportunity to gain exposure in this
sector, however with more attractive risk reward incentives than would usually be feasible by the average investor. Many
investors who may not have initially invested in the technology industry directly can turn to a product such as ours, which
carries 3 well known and established booming stocks that are well known worldwide, all at a reduced cost.
Attractiveness of the product
One of the major attractions of this note is the fact that average investors will now be able to afford purchase a participation
in the structured product to facilitate an exposure to technology stocks such as Tesla, Apple and LinkedIn. These stocks are
currently selling for relatively high prices, especially Tesla at close to $300. For an investor to replicate the type of exposure
we are providing here, let’s examine first the structure of purchasing call options. For simplicity, let’s assume the investor
would like to replicate this structure without imposing a cap. An at the money call option for Tesla is currently selling for
approximately $65, which will subsequently translate into $6,500 following the purchase of the necessary minimum of 100
contracts, or 100 call options. To sustain a leverage ratio of 3 to 1, 2 call options are required for every 1 underlying share,
and so 50 shares of Tesla are required for an overall position of 3:1. For simplicity, assuming Tesla was trading for a round
$300 per share figure, this would equate to an additional $15,000 investment. Ultimately, solely replicating a 3 to 1 uncapped
upside with a 1 to 1 upside would cost an investor $21,500. Now, assuming this average investor had such a substantial
margin that he was able to short 100 options, at the cap rate, and assuming a price of $50 each option, this would equate to
a premium received of $5000. If this investor did have this substantial margin, he would still sustain a $16,500 cost to
replicate this position we offer. Let’s remember, this is before transaction costs and that this only represents one stock,
whereas our product includes 3. However, our Leveraged Technologies Structured Note provides investors an exposure to
these assets given this type of structure at an affordable price of only $255. This is because the investors are actually
purchasing a piece of our entire basket of weighted equity. They are then able to choose the amount of exposure to these
stocks that they desire and subsequently can enjoy this leveraged exposure without the substantial capital required, as
demonstrated above. Due to their affordability, they will be easily accessible to the middle-income and average investors
who are looking for some exposure in the technology sector, whether it is for diversification needs or solely speculation.
Our product provides the average investor the ability to enjoy accelerated upside potential in equities that may not have
otherwise been affordable. Given the accelerated returns, even a relatively small exposure through our product can prove to
be beneficial and attractive for those who would otherwise find this type of market exposure financially unfeasible. This is
the only leveraged basket in the market currently which focuses solely on the technology industry, and we believe immense
popularity will be given to it.
Even if the notes do not provide downside-protection, investors should be attracted to the upside potential and the exposure
given to this specific asset class and position’s overall risk reward proposition. After all, the downside exposure is equivalent
to that of a direct investment, and not the usual downside associated with being so highly leveraged. Due to the feature of
leverage, as soon as the underlying basket of assets generates positive returns, those returns are tripled up to a certain limit.
A return of 5% from the basket of assets, which would usually be considered a poor return for these types of equities, would
produce a return of 15% through the use of our product. By directly investing in the market, investors would still have the
same downside, but their upside would be limited to the return of the market, which in this case would be 5%. This is the
primary reason why this product is attractive to investors who are ready to accept sensible downside risk and that have
moderately bullish expectations on the technology industry. Without the use of our product, an investor with only
moderately bullish expectations of the technology sector may not decide to gain the exposure as they are accepting
substantial volatility without much expectation of an upside, but the same potential for a poor downside. Our product allows
these same investors to enjoy 3 times the upside potential while maintaining the same initial downside exposure, all the
while, mitigating the costs a structure like this would usually entail.
Unattractiveness of the product
As opposed to many notes available on the market, our notes do not offer downside protection. Holders of the notes are
exposed to 100% of the fall in price of the underlying assets within the basket. Essentially, the downside exposure is
equivalent to that experienced if the investor had directly invested in these equities. It is commonly known that markets
are more volatile when interest rates are low. In the current market, a surge in stock prices could be experienced, but a
decline could also come to fruition, like the price correction experienced in October and November 2014. However, this is
solely a tradeoff to the accelerated upside these investors will now be able to enjoy. Those looking to add technology to
their portfolio for whatever reason will be more inclined to do so through the use of our product than a direct investment,
given only moderately bullish expectations as explained. Additionally, the investor may choose to hedge his exposure
however they see fit, which can easily be implemented to mitigate some of the downside potential.
Additionally, no secondary market will be provided to investors, and they should be prepared to hold the note until maturity
when investing. As such, solely an 18 month investment horizon should be sought out when our product is utilized. Actually,
this lack of liquidity is an issue investors will need to consider when investing in a structured note in general. Notes are not
listed on any securities exchange as the issued volume is usually very low, with only 50,000 notes being offered in our case.
We anticipate the trading volume to be low and mostly non-existent. Our bank is the only provider of a daily secondary
market, but we are in no way obligated to do so and requests will be dealt with on an individual basis.
Suitability
The product is intended for investors who hold a short-term and moderately bullish view on the technology industry, and
so those seeking long-term exposure are not targeted. The product is not suitable for any individuals who are looking to sell
the product before maturity, as it is intended to be held for the entirety of the investment horizon. The product does not
provide any ownership in the equity of the underlying stocks, and so any investors seeking this type of ownership are not
targeted. Although the upside and downside proposition is attractive, this product does not target any investors looking to
hedge their downside risk as this position introduces the same downside risk as a direct investment in the equity. Investor’s
looking for a diversified industry outlook are not targeted as the leveraged basket is made up of solely 3 securities, with the
main priority of generating accelerated upside gains while adding a modest exposure to the technology industry. Investors
seeking guaranteed returns should look elsewhere, as these products are not principal protected and returns carry no
guarantees. The product offers accelerated, but capped returns, and so investors seeking returns in excess of 45% are not
targeted.
The following is a list of investors targeted by this notes and for which the exposure would be suitable;
Investor’s anticipation of the market is that it will increase over the next 18 months, moderate or drastic, from the
Starting Value to the Ending Value.
Investors can accept that their investment will result in a loss, which could be significant, if the basket value
decreases at maturity relative to its value at issuance.
Investors are willing to accept that a secondary market is not expected to develop for the notes, and understand that
the market prices for the notes may be less than the amount originally invested if they decide to liquidate prior to
maturity.
Investors are ready to assume our credit risk for all payments related to the ownership of the notes.
Investors that are not suitable for this leveraged basket structured product are included in the following list;
Investors believe that the market will decrease from its Starting Value level in the next 18 months or that it will not
increase sufficiently over the term of the notes to provide a desired return for the risk it represents.
Investors seek 100% principal protection or to be protected up to a certain percentage of their losses. This note does
not provide any downside risk protection and therefore their principal is entirely at risk.
This note, even if derived from a basket of stocks, does not provide direct exposure to technology stocks.
Investors seek an investment for which there will be a liquid secondary market.
Investors are unwilling or are unable to sustain the market risk or our credit risk inherent in the notes
Description of Underlying Stocks Included In the Basket
Tesla is an American automotive technology company which primarily focuses on producing electric powered vehicles.
Tesla’s stock trades on the NASDAQ and is unarguably one of the most interesting stocks in today’s technology industry.
Following Tesla’s initial public offering in 2010, they generated their first profits in 2013 and have been surging since. They
have enjoyed the advantage of being first to market in offering a premium electric vehicle. Following the introduction of
their newly developed entry level vehicle, the Model X, paired with the integration of their autopilot programming, we
believe Tesla is a great aggressive investment.
Apple is an American technology company and the world’s second largest technology firm based on global revenues. Its
stock trades on the NASDAQ and was added to the Dow Jones Industrial Average earlier this year in 2015. Apple has
enjoyed leading market share with regards to consumer products such as smartphones and tablets. As Apple has experienced
top line growth following the release of their new smart watch, the iWatch, we believe Apple’s stock will be a greater
performer in the near future and will prove to beneficial over the next 18 months.
LinkedIn is the world’s most popular business networking social media platform with a business model relying primarily
on ad revenues, similar to Google. It enjoyed much success as public firm with a vast global reach with subscribers and
elected to go public in 2011. It listed on the NYSE and grew an astonishing 170%. It has since generated great returns for
its investors and is one of the more watched and known stocks in the industry, given its growing popularity in business
networking. LinkedIn’s recent acquisition of Lynda was well received by the market and we believe their stock will continue
to appreciate along with its growing market penetration.
Composition and Fair Market Value of the Notes This product offers the customer a 3 to 1 capped upside exposure, while at the same time being able to maintain a 1 to 1
downside risk, similar to a direct investment without the downside effects of leverage. As such, we have replicated this
portfolio through a combination of the underlying assets and various derivatives. Firstly, we purchase the underlying assets.
These provide a 1 to 1 upside, and a 1 to 1 downside. Now, in order to leverage the upside on a 3 to 1 basis, we have
purchased 2 long call options on this underlying asset, both with strike prices set at the price we paid for the underlying
asset; essentially, these are at-the-money call options. At this point, we have replicated a 3 to 1 upside and a 1 to 1 upside
for the underlying asset. To introduce the capped return of 45%, we have sold 2 call options, with strike prices equal to a
45% capital appreciation on the underlying asset. Only 2 call options were needed to be sold here as opposed to 3, as the
customer is liable for any decrease of the underlying asset on a 1 to 1 basis. The application of this derivative strategy
ensures as perfect of a hedge possible for the bank. All of the options utilized in the strategy will carry a maturity of 18
months to match the maturity of our product. Of course, this structure has to be repeated for each of the three underlying
assets. This clearly translates into a very costly structure that an average investor would have difficulty trying to replicate,
given the substantial liquidity required. Because of the call options and the long position in the underlying stocks, we are
able to provide a 300% participation in the return of the basket up to a capped amount.
Now, in order to create the price path simulations for each stock contained in the underlying basket of assets (Apple, Tesla
& LinkedIn) we used the Cholesky Matrix and the generation of 3 random numbers from Marsaglia-Bray. We then
multiplied the Cholesky matrix with the vector of random numbers from Marsaglia-Bray, summing the products together
for three continuously changing random numbers. This is done to account for the correlations existing between the stocks.
Once the correlated random numbers were created, we used the stock simulation model and implemented the correlation
random numbers to create three different stock prices. A Monte Carlo simulation for the aforementioned process was run
10,000 times, in order to calculate the various options on the three stocks, and subsequently, the total cost of building this
position and price for the consumer.
Weights were determined based on the volatility of the different stocks. In order to maximize volatility while still ensuring
diversity, we capped the weight for the highest volatile stock at 60% and put a minimum weight of 20% representation
within the basket. Tesla Motors, being the most volatile stock of the basket, represents a weight of 60% of the basket. Apple,
because it has the lowest variance, has a weight of 20% of the basket and LinkedIn weight is 20%. This focus on volatility
was implemented in efforts to maximize the likelihood of significant upward movements and subsequently greater returns
for the investors. However, the remaining two stocks have equal weights to ensure some level of diversification was present.
Ultimately, we ended up with a FMV of $250.77 to build the entire position at the time of issuance, including both the
underlying assets and their accompanying derivatives. We will be selling the product with a margin equal to approximately
2% at a round figure of $255 to cover the 1.5% of fees attached to our product and still keep an extra earning for each note,
which will be really small.
Capital Market Assumption - Potential for growth and income
The American economy has been recovering from the 2008 recession and economic data has showed lingering effects ever
since. The Consumer Confidence Index has been continually increasing in the last 18 months, demonstrating that faith in
economy is being restored. May 2015’s unemployment rate of 5.5% is at an all-time low since the economic crisis1. Large
American companies have been stockpiling cash derived from their operations in order to avoid the lack of credit sustained
throughout the crisis. Apple is a great example of a company sitting on a substantial sum of cash and we believe this cash
flow will be used to finance large acquisitions or will be used internally to finance large projects and development2. As
previously stated in the Black-Scholes assumptions, we assume that an interest rate forecast of 0.6% is logical given the US
T-Bills rates currently sit below this. We suggest that even if the Federal Reserve increases the rates in the fourth quarter of
2015, we would anticipate a maximum hike of a quarter of a percent3. As such, we believe we have chosen an accurate rate.
We are also comfortable with the historical volatility of the stocks included in the basket.
Black-Scholes Assumptions
The Black-Scholes assumptions taken to price the call and the price path of the underlying assets will be crucial in the
overall pricing of our structured notes. We do our best to match the maturity of our product with the historical age of our
data. Seeing as it is an 18-month maturity, we tend to utilize 2-year historical data. Here are the major assumptions that we
made on key variables;
1. Risk-free rate: All 3 stocks of our underlying basket are US stocks traded on the NASDAQ or the S&P 500 and will be
distributed by our American Bank, STRATTON Investment Bank. They are sensitive to the American economy and
therefore US interest rates will be used. A 0.6% risk-free rate corresponds to the rate on a horizon of 2 years of past data
from the Federal Reserve. This is not perfectly matching with our investment horizon of 18 months, but we believe this
to be an accurate enough proxy.
2. Stock price: It was assumed they follow a random walk and the prices are log normally distributed.
1 http://data.bls.gov/timeseries/LNS14000000, United States Department of Labor: Bureau of Labor Statistics, retrieved June 29th 2 Apple 2014 Annual Report 3 U.S Department of Treasury, Treasury Bill Rates, http://www.treasury.gov/resource-center/data-chart-center/interest-
rates/Pages/TextView.aspx?data=billraterates/Pages/TextView.aspx?data=billrates, retrieved on June 29th 2015
Underwriting, marketing and product development fees will correspond to 0.5% of the initial offering. This 0.5%
represents the total amount that will be invested to market our notes to the general public and to underwrite this
offering. This amount is reasonable as we anticipate significant demand and the underwriter should be able to
liquidate their position with relative ease.
Broker’s fees with regards to our distribution channels correspond to 1% of the initial offering. Broker’s fees include
the distribution of the notes to the market through our known network. Notes will only be made available on the
American market and therefore purchased by US citizens.
The fee structure was determined based on the investments required to market and sell the notes through STRATTON’s
Investment Bank network. The fee structure (especially broker fees) also corresponds to what is usually charged by our
company when issuing a derivate product and it is benchmarked on the fee structure of the competition and market as a
whole. No discount will be provided to investors who purchase a substantial amount of notes in a single transaction. The
public offering, as well as the fee structure, will remain consistent and the note will sell for $255.
Sales Channel (Distribution) The product will be distributed through underwriters, dealers, agents, and directly to retail purchasers and institutional
investors across the USA. The marketed prices will be determined at fixed prices, market prices prevailing at the time of
sale, or negotiated prices based on type of transactions. Underwriters, dealers, and agents who participate in the distribution
of the securities may be underwriters as defined in the Securities Act. Any discounts or commissions that we pay them and
any profit they receive when they resell the securities will be treated as underwriting discounts and commissions under the
Act, and this will subsequently reduce STRATTON Investment Bank’s net proceeds. We will distribute the product directly
to smaller institutional investors, such as small commercial banks and insurance firms, and the rest will be distributed
through brokers. A total of 1% of the proceeds will be allocated to the brokers.
Through Underwriters
Underwriters are able to purchase the structured notes for their own account at the marketed price and resell the securities
in one or more transactions, at any time for any price. We anticipate substantial demand and the low underwriting fees
associated with this product accordingly reflect this fact.
Through dealers and agents
The structured notes are sold to dealers and agents as principals, which we have referred to as brokers throughout the report.
The dealers and agents may then resell the securities to the public at varying prices to be determined internally by their
departments. Broker channel will be the same the bank usually uses. On the first day of the issuance, brokers will have to
sell the notes at their issuing price of $255. Brokers are charging fees of 1%.
Through direct sales channels
Part of the distribution plan includes direct sales to retail and institutional investors. The institutional investors that will be
targeted by this offering are small commercial banks and insurance firms. We want to market to those small retailers so they
can offer the chance to less worthy clients to participate in this offering. Retail purchasers bear the most risk and could
pursue these products with the purpose of hedging, investing, or speculating. In terms of direct sales to retail investors, we
will be focusing on the types of investors outlined in the suitability section but do not intend to extensively be the distributor
of this offering.
Trading STRATTON Investment Bank will not provide a secondary market for these notes, primarily due to the complexity of
pricing and mainly due to the term of the note. These notes are intended to be held for the entirety of the maturity. A note
holder will not receive the principal amount prior to the Maturity Date and the notes will not be listed on any exchange. If
the note holder decides to liquidate prior to maturity he will personally have to find a buyer, and there is no guaranteed
liquid market to sell and therefore, the holder may receive substantially less than the amount he/she previously invested.
Our bank is responsible for the issuance of the notes on July 16th 2015. The issuance will be made directly by the bank and
by its network of brokers. The notes will not be listed on any exchange market and no secondary market will exist.
Alternative Investments Our Leveraged Technologies Structured Notes provide investors with a unique exposure to a basket of technology stocks,
while being able to enjoy an accelerated return. Due to this unique feature, we are confident investors will not be able to
find a substitute to our product, especially when the amount of cost mitigation taking place is assessed
Investors could directly invest in the underlying stocks that make up the composition of our basket. If they want to replicate
the payoff, they would have to invest in the same proportion and the same stocks. Even if they invest this way, their
investment will not demonstrate the same behavior as the product we are offering. Their downside exposure will be the
same, but their upside will be 1 to 1 without being capped. Our product offers a 3 to 1 upside leverage up to a 45% maximum
limit. It has to be noted that by investing this way, the investor will be building a basket of products that requires superior
knowledge of investments. It would be time consuming and the fee structure would be high, as already mentioned.
Another alternative investment investors could seek is to invest in a leveraged ETF. iShares, Vanguard, Horizons, and
Direxion Daily Technology Bull 3X (TECL) all provide leveraged technology ETFs. ETF’s primarily provide exposure to
index, in this case to the S&P Technology Select Sector Index. It could be 3 times bear or bull. In times of positive returns,
the ETF will exhibit similar behavior to the upside of our Leveraged Technologies Structured Note, but would not be capped.
However, it is important to note that although the upside exposure may be competitive with our product, the downside
exposure is much worse, and this is where our product excels. Due to the leverage of 3 to 1, both upside and downside are
accelerated with the ETF. Investors in a 3 times bull spread will lose approximately 30% of the money invested if the index
decline by 10%, at minimum. It is no secret that in times of declining returns, these leveraged ETFs experience compounded
losses and sometimes become more volatile and with greater losses than advertised by their leverage factors, especially if
held for an 18 month period like our product. Our Leveraged Technologies Note provides an accelerated upside, but
maintains a 1 to 1 downside, identical to a direct investment in the underlying without any added leverage. The only tradeoff
is that we cap the returns, although we are sure to do so at an attractive 45% figure, which represents a great 18-month HPR.
This is a major reason why our unique product is appealing. Technology stocks are volatile and investors do not bear the
risk of leveraged downside losses if the technology industry was to behave negatively in the next 18 months, regardless of
the fact that the upside is so highly levered. This would not be a feature enjoyed through the use of leveraged ETFs.
Moreover, our Leveraged Technologies Structured Note provides a unique exposure to a precise basket of three stocks. An
average investor looking to gain exposure in the technology industry will feel confident employing their capital towards
industry leading companies, as opposed to some of the more obscure investments available in the technology sector. Usually,
ETFs will not allow the investors to invest in a small selection of stocks, but rather will invest in a whole index. As such,
the upside potential is not as lucrative as can be experienced with our product.
Risk Management
Investor Risk
Market Risk: This is the prominent risk for investors, as it differs from that of a bond and other fixed coupon products,
relying on the performance of the basket of underlying stocks. The investment may result in a loss and there is no guaranteed
return of principal with this note. The investment horizon is short, being only 18 months, and this means that investors are
exposed to market movements for this period of time. Investors’ returns on the notes may be less than what they would have
been if they had directly invested in the market and bought the underlying stocks in the basket given that this note limits the
return based on a Capped Value. This would only happen if the return of underlying assets has a weighted return greater
than our cap of 45%. In all other cases, the holder of this note will have a leverage replication of the risk of the underlying
if return is positive, and will have the same exposure as investing in the market if the return is negative.
Although our product does not provide investors with a direct exposure to the underlying equities, its return is derived from
the prices of these underlying assets, and so some market risk needs to be accepted by the investors. The bank has no control
on the stocks or their price movements and there is a probability that the technology market will not perform well in the
next 18 months.
Correlation Risk: Returns on the investment are directly linked to the correlation and return of the stocks included in the
basket. We have selected volatile stocks with low correlations between each other. However, if the correlation were to
increase, it would have a direct impact on the return of an investor.
Issuer Credit Risk: Leveraged Technologies Structured Notes are unsecured debt that are owed by our bank. Ending
payments owed on the Structured Notes are also subject to the credit risk of the issuing bank STRATTON Investment
Bank. However, this is a standard risk associated with most products of this nature.
Illiquidity Risk: The bank does not provide a secondary market; therefore, if an investor wants to sell a note in the
secondary market, the price he would receive for the notes, if he is able to sell it, will be less than the price he bought
them at.
Other risks that investors could be exposed to include;
Exchange rate movements, political, and economic events can affect the return on the notes and their value.
In calculating the final level of the basket, the increase in the value of one of the basket stock may be moderated,
or more than offset, by the decline in the value of another stock. There can be no assurance that the final basket
level will be higher than the initial basket level.
Issuer Risk
Mispricing Risk: STRATTON is subject to mispricing risk when issuing these notes. Pricing is determined by averaging
all of the costs the bank has to incur to create the position. From the internal costs, the bank adds a modest premium and
design the price at which it will sell the notes to institutional and retail investors. The premium includes the fees we have to
incur, total fees reduce our internal proceeds, to underwrite and market the notes and a small profit that we want to extract
from the notes for STRATTON investment bank. If we have mispriced the notes, or the correlations among the assets
decrease, the internal cost of creating this product would increase and would potentially affect the profit return we generate
from these notes.
Market Risk: Given the aforementioned hedging strategy, we will also be at risk market wise. This risk however, is not
different than what our bank allows traders to take. For the bank, this product is highly dependent on volatility. We proved
through simulation and back-testing that even if the structured notes present inherent risk, it is a risk that the bank will be
able to sustain.
Correlation Risk: The stocks which make up our basket, with their respective weights, have high variances and low
correlations among each other. It is widely known that the correlations in a basket of underlying decrease the variance of
the portfolio as a whole. This portfolio is currently set up so stocks show small correlations among each other. However,
they still present some positive correlations and this is explained by their operations in the same industry. If the correlation
were to decrease and almost be inexistent it would have a negative effect on the pricing (it would increase) and the margin
of profit of the bank would decline.
Regulatory Implication – Law & Taxation matter The structured note is considered as an “open transaction” that is not a debt instrument for US federal income tax purposes.
Under such category, a U.S. holder should generally recognize gain or loss upon the sale, exchange or maturity of its notes,
in an amount equal to the difference between the amount realized at such time and the U.S. Holder’s tax basis in its notes
(generally the amount paid for the notes). Because the bank does not provide any secondary market, the amount should be
recognized at maturity. Such gain or loss generally should be long-term capital gain or loss because the note is an 18-month
product and longer than one year. The note could be treated as “constructive ownership transaction” within the meaning of
Section 1260 of the Internal Revenue Code of 1986, amended (the “Code”). If and to the extent that section applied, any
gain recognized in respect of the notes that would otherwise be long-term capital gain and that was in excess of the “net
underlying long-term capital gain” (as defined in Section 1260), would be treated as ordinary income, and an interest charge
would apply as if that income had accrued for tax purposes at a constant yield over the notes’ term. The tax rates applicable
are dependent on the state of residence of notes holder and is charged on their income.