Chapter 5 Bullet Products

Bullet products are structured products that do not have an autocallable feature. The observations can be at anytime from the strike date to the maturity date, but the payoff will always occur at maturity. To illustrate that, let us review a few products.

5.1 Reverse convertible: a simple structured product

The reverse convertible is probably the most classic and the simplest bullet structured product. At a given observation frequency, the client receives a fixed coupon regardless of the performance of the underlying. However, his invested capital is still exposed to the performance of the underlying. Indeed, the capital amount that is redeemed to the investor at maturity will be assessed by whether or not the PDI barrier was activated. In other words, the PDI aims at financing the coupons. The payoff at any time before maturity is therefore \(c\), and the payoff at maturity can be written as below: \[ \begin{align*} Payoff= \left\lbrace \begin{array}{ccc} c & \mbox{if} & S_T \geq B\\\ c+ K-S_T & \mbox{otherwise} \end{array}\right. \end{align*} \]

An additional barrier can be added for the coupon: it is not guaranteed as before, and will be redeemed if the underlying goes above the coupon barrier (which is then higher than the PDI barrier).

The payoff of a Barrier Reverse Convertible at maturity is then:

$$

= \[\begin{cases} c & \text{if } S_T \geq B_{\text{coupon}} \\ K - S_T & \text{if } S_T \leq B_{\text{PDI}} \end{cases}\]

$$

5.2 Twin-Win with European PDI: betting on volatility

The Twin-Win is the best product when we want to bet on the volatility of an underlying: when the owner thinks that the underlying will be moving a lot on the upside and/or on the downside, he could be inclined to buy either a put or a call, but buying both would be quite expensive. Therefore, the owner has the possibility to buy both by shorting a PDI. We say that we benefit from the “absolute performance” of the underlying. Therefore, the call will be uncapped, but the put will be capped from the PDI strike: it is therefore a Down-And-Out put, because it will deactivate if the PDI activates. The call will also deactivate if the PDI barrier is breached at or before maturity. Another variation would be to buy an Up-And-Out call: this would be less expensive than an uncapped call, and in case of medium-high volatility, it would also provide benefits if the underlying increases.

\[ \begin{align*} Payoff= \left\lbrace \begin{array}{ccc} \lvert S_T-K \rvert & \mbox{if} & S_T \geq B\\\ K-S_T & \mbox{otherwise} \end{array}\right. \end{align*} \]