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Know-How - Participation

Twin-Win certificates are a special variant of the bonus certificate that generate a positive return on their investment in bullish as well as bearish markets, as long as the underlying asset price doesn't decrease by too much and breaches through a predetermined barrier.

Usually, the product has 100% participation to the upside (not capped) and 100% participation to the downside in absolute terms. In other words, should the underlying asset rise by 25%, the return on investment is +25%, and should the underlying asset fall by 25%, the return on investment is also +25%, as long as the barrier (which could for example be set at 40% below spot) wasn’t breached during lits ifetime. If the barrier is breached (usually anytime during the lifetime of the product, i.e. American style barrier), the Twin-Win transforms itself in a certificate tracking the underlying asset. Any downside absolute participation disappears (the barrier has been “knocked-out”). The maturity of the product plays an important role, as the delta of the product amounts to approx. 95% at the product's inception. Hence, the positive performance that should be reflected in the mark-to-market price of the product in a bearish market only “grips” when around 70% of the time to maturity has expired.

Payoff Features

The structure is constructed by means of a long zero strike call, and long two down & out puts, where the strike is set at-the-money. The barrier level of the puts determines both the maximum downside performance (in absolute terms) the product could reach and the level at which the product "knocks out" and loses the the downside absolute participation.

Do's
  • Use this product when you're not sure about where the market is headed, but you think that it won’t crash by more than the barrier level. You must still consider the worst-case scenario (a crash through the barrier) and be able to bear the loss in case it happens.
  • Carefully consider the downside participation up to the barrier, and pitch it against the potential bonus of a classical bonus certificate: which is more attractive? Ask the structurer for variants.
  • Limit the maturity to 12 – 24 Months.
  • Use a “worst-of” feature on underlying assets if their correlation is low and you believe that none of them will breach the barrier. Use 2, max 3 underlying assets, never 4, 5 or even more.
  • Use a barrier level that gives a reasonable payoff in case the underlying effectively drops. If the barrier is too near the spot for your liking, use a cap on the upside to lower the barrier further.
  • If a 20% decrease seems possible, take a barrier that will protect the investment up to a decrease of 35%. Better be safe than sorry.
  • A Twin-win certificate on stock indices is especially well suited if you think that dividends will decrease in the future.
Don'ts
  • Don’t use this structure when you’re either strongly bullish or strongly bearish. Other structures are better suited for such scenarios.
  • Don’t invest into Twin-Win Certificates with maturities exceeding 2 or 3 years. Forecasting that an underlying will end up between zero and – X% (X% being the level of the barrier) in years from the moment ysou invest is practically impossible. The value of the protection therefore diminishes with the time to maturity.
Impact Factors
  • Dividend Yield (for Equity): the higher, the better. A Twin-Win cannot be achieved on stocks paying no dividends. Of course, the dividends are not paid out to the Twin-Win Certificate's holder, as they are used to buy the two down & out puts.
  • Yield (for Excess Return Indices): the higher the better.
  • Volatility: the higher the better. Fact is that the mathematical models assume that the higher the volatility, the more likely it is that a barrier of the down & out put will be breached. Therefore, all other things remaining equal, the put options' value is considered lower the higher the volatility. In other words, a higher volatility allows to increase the protection puffer of the barrier (lower barrier level).
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Classical Variants
  • Worst-of Twin – Win: two or more underlying assets form the underlying assets of the product. If one (the worst-of) hits the barrier, the downside participation is lost and the payoff is linked to the worst-of performin asset. The value extracted from the correlation is used primarily to shorten the maturity or to lower the barrier.
  • Capped Twin – Win (represented on the right): the upside participation is capped at a certain level. The extracted value from the cap is used primarily to shorten the maturity or lower the barrier.
  • Lock-in Twin – Win: as soon as a certain upside is realized, the whole structure becomes capital guaranteed. Interesting but expensive feature, and can usually only be realized with longer maturities. Could be used in combination with Worst-of.
Caveats

Beware of products with 4 or 5 years maturity and usually a very low (50%) barrier: If you think that the underlying might fall by 50% within the next 4 or 5 years, don’t invest. The chance of such a scenario happening is very slim at best. Remember that the delta of the structure is around 1 for ca. 70% of the lifetime of the product. So even if you’re right after 3 years and the underlying trades at, say, 70% of initial value (meaning a loss of 30%), the product will still trade at around 70% - 75% and your mark-to-market loss will be accordingly disappointing. You won’t be able to realize your absolute downside participation until at least 4 years have passed and it takes a very patient investor to hold out for that long.