A reverse convertible security or reverse convertible note is a short-term note linked to an underlying stock. The security offers steady stream of income due to the payment of a high coupon rate. At maturity, the investor will receive either 100% of the par value or a predetermined number of shares of the underlying stock, in addition to the stated coupon payment.
How do Reverse Convertibles work?
• Reverse convertible securities are short-term investments, typically with one year maturity.
• At maturity, investors receive either 100% of their original investment or a predetermined number of shares of the underlying stock, in addition to the stated coupon payment.
• The investors’ earning potential is limited to the security’s stated coupon, because investors receive coupon payments regardless of the performance of the underlying reference shares.
• Coupon payments are the obligation of the Issuer and are paid on a monthly or quarterly basis.
• Reverse convertibles are sold by prospectus or offering circular and pricing term sheet. The prices on these notes are updated intra day to reflect the activity of the underlying equity.
Risks to Consider
• Owners of the Reverse Convertible Notes may be exposed to the risk of the decline in the price of the reference shares during the term of the note.
• Investments in equity-linked notes (particularly if the investor does not understand what they are purchasing) may not be suitable for all investors.
• Investors selling notes prior to maturity may receive a market price which is at a premium or a discount to par and may not necessarily reflect any increase or decrease in the market price of the underlying equity to the date of such sale.
• Reverse Convertibles do NOT guarantee return of principal at maturity and can be easily confused with a bond (since the investor receives a premium payment until maturity).
• In addition, Reverse Convertibles do not have the same price appreciation potential as the reference shares because at maturity the value of the note may not appreciate above the initial principal amount.
• The market price of the Reverse Convertibles may be influenced by unpredictable market factors.
Typically, reverse convertible securities are suitable for high net worth clients seeking current income, traditional equity customers (trust accounts, money manager, qualified accounts, etc.), investors that believe that the market will be relatively flat and can take the risk that the market might increase, and investors who own the underlying stock. Reverse convertible notes are not suitable for retired or elderly investors that are relying on the investment to meet income needs and cannot afford to lose their underlying principal.
Delivery at Maturity
At maturity, there are 2 possible outcomes:
• Cash Delivery
o Stock closes at or above the Initial Share Price upon valuation date, regardless of whether the stock closed below the Knock-in Level during the holding period. OR stock closes below the Initial Share Price, but has never closed below the Knock-in Level.
• Physical Delivery
o Underlying shares closed below the Knock-in Level at any time during the holding period and does not trade back up above the Initial Share Price on valuation date (4 days prior to maturity).
If you have questions about a reverse convertible securities or note investment you made, or if you believe that you have been the victim of a securities fraud, The White Law Group may be able to help. To speak to a securities attorney, please call our Chicago office at 312-238-9650 for a free consultation.
The White Law Group is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Boca Raton, Florida.
For more information on The White Law Group, visit https://www.whitesecuritieslaw.com.