Reverse Convertibles or would you prefer stocks?
Reverse Convertibles are particularly attractive to investors because of their high returns, and the risks also seem manageable: the investment period is limited to a few months or years and at the end of the term investors receive a fixed number of shares, if not a repayment of the capital invested . However, the following points should show whether reverse convertibles are really a simple and profitable investment for investors or whether it is no longer worth buying the underlying directly.
risk
There is an issuer risk with reverse convertibles. If the issuer of the reverse convertible suffers insolvency and is unable to pay, the investor loses the capital invested in the reverse convertible, regardless of the development of the underlying asset, and also gets nothing from the agreed interest payments.
chance
Reverse Convertibles are a worthwhile investment, especially when the market is trending sideways or only falling slightly, as they can generate a non-negligible profit in this market environment, whereas a direct investment in stocks would not generate any profit.
risk
With a reverse convertible, investors miss out on the dividend payments that they could have pocketed with a direct investment in the underlying.
chance
Convertible bonds offer an above-average, often double-digit interest rate, which the investor always receives. A similarly high and guaranteed interest rate cannot be achieved with any other financial product.
risk
If the price of the underlying is below the base price on the valuation date, the investor does not receive the nominal amount back, but rather shares whose value is lower. The lower the price of the underlying is below the strike price, the lower the value of the bond repayment.
chance
Even if the reverse convertible is redeemed through the delivery of shares, this does not necessarily mean a loss for the investor. The high interest payments act as a loss buffer that a direct investment would not have offered. If the price of the underlying asset is not too low below the strike price, the investor has still made a profit even with the delivery of shares if he includes the interest payments.
risk
If the price of the underlying falls drastically during the term and is quoted at zero on the valuation date, the buyer of the reverse convertible suffers a total loss of the capital invested. Only the interest earned remains.
chance
Even if the interest payments are not sufficient to compensate for losses in the underlying asset, the investor who has invested in a reverse convertible is still in a better position at the end of the term than the investor who has made a direct investment in the underlying share. Because if you take the interest payments into account, the holder of the reverse convertible suffered a lower loss than would have been the case with a direct investment in the underlying. On the other hand, both benefit in the same way from further developments in the underlying asset.
risk
Profits are capped. In the case of a reverse convertible, the investor gets back a maximum of the nominal value invested in the reverse convertible. He therefore does not benefit from increases in the price of the underlying asset, while he bears the full loss if the price falls. In the event of a longer-lasting upward movement, holders of reverse convertibles only look on while investors make profits in a direct investment.
chance
An investment in a reverse convertible can also be worthwhile if the price of the underlying asset rises. A direct investment in the share only makes more sense if the price gains are greater than the amount that the investor receives from the interest on the reverse convertible. With moderate price increases, the investment in reverse convertibles therefore pays off.