Volatility in financial market terms is a yardstick for measuring the magnitude of the fluctuations in a financial instrument. "Implied volatility" indicates the market's expectation regarding the degree to which a financial instrument will fluctuate in the future. In addition to the price of the underlying instrument, implied volatility is the most significant influencing factor in the value of options and warrants. Increasing implied volatility in an underlying instrument leads to a rise in the price of the related options and warrants, because the potential for a higher payoff at maturity increases while the maximum loss for the buyer is always limited to the amount of capital invested. A decline in an underlying instrument's implied volatility leads to lower prices in the related options and warrants. In worst case, this effect can be so pronounced that the price of a call warrant drops even though the underlying instrument has risen in price. The coefficient "vega" indicates the extent to which a warrant responds to changes in the implied volatility of the underlying instrument. Changes in volatility have an impact only on the time value of an option/warrant. Thus investors can reduce the influence of volatility by buying an option/warrant that already has intrinsic value, i.e. is trading in the money.
|In the money
A call option/warrant is "in the money" when the price of the underlying instrument lies clearly above the strike price. A put is in the money when the underlying security is trading clearly below the strike price.
An index-linked bond functions the same way as a reverse convertible. In this instance, however, an index rather than a stock serves as the underlying instrument.
The holder of an inline warrant receives at expiry a fixed amount if the price of the underlying instrument has not breached a specified corridor during the term of the warrant. If the limits of the corridor are hit or penetrated, the product expires worthless.
The price of an option/warrant consists of two components: "time value" and "intrinsic value". The intrinsic value of a call option is represented by the difference between the current market price of the underlying instrument and the exercise price, multiplied by the exercise ratio. An option/warrant only has intrinsic value if it is in the money. Otherwise, the intrinsic value is 0; it is never a negative figure. The intrinsic value of a put option/warrant is the difference between the exercise price and the current market price of the underlying instrument, multiplied by the exercise ratio. Intrinsic value is determined solely by the price of the underlying security. Changes in other factors, such as volatility, interest rates and dividends, only have an influence on the "time value" of an option/warrant.
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