Optionality in Defined Returns Plans? - Advanced Financial Management Topics

Risks involved in undertaking the 5 years defined returns plan

Optionality in Defined Returns Plans?

We are in 2010. A large international investment house is launching an aggressive campaign to encourage “long-term” stock investments among private UK investors. Using information from the quotes and catalogue sections below (herein pp.3-6), prepare a report answering the following questions. Marks for the various parts of the report are indicated in parentheses.

1) Discuss the various risks involved if you’re an investor undertaking the 5 years defined returns plan. (15%)

2) Explain embedded (and type of) optionality, if any, for each of the 4 years and 6 years plans respectively. (20%)

3) Determine the value of the option embedded in the 4 years defined returns plan, discuss input parameters and explain overall approach (e.g. cite relevant literature, etc.). (45%)

4) If no costs are incurred by existing customers at contract origination, under which conditions will it be appropriate to sell their 4 years defined returns plan before maturity assuming a 9.8% penalty is deducted from the original investment? Provide examples for your answers. (20%)

Topics in Advanced Financial Management

Discuss, in not less than 1000 words per essay, the following two topics:

The contributions of Vincenz Bronzin and Louis Bachelier to options pricing theory.

How can we view the issue of dynamic capital structure from the perspective of contingent-claims theory.