An equity structured note with a knock-in condition, such as an exchangeable bond (EB), has a put option (put) on the reference stock built into it. Which statement about the position of the investor who buys this note and the main source of its relatively high coupon is correct?
Quiz: Equity Exotics
Last reviewed: October 15, 2026
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6 questions to check your understanding of the chapter “Equity Exotics”. Choose an answer and select “Check answer” to see the answer and explanation. You can also open “Answer and explanation” to see the answer first.
Question 1
Answer and explanation
Answer: B
Through the note, the investor sells a put on the reference stock. The buyer of this put is the financial institution that structures the note (the dealer). The main source of the relatively high coupon is compensation for the risk of a large loss that the investor bears if the note knocks in, which corresponds to an option premium. It is also partly compensation for giving up gains from a rise in the stock price.
Because the investor receives a relatively high coupon, it is easy to assume the investor holds a favorable right and to pick a choice that puts the investor on the buying side of the put. The coupon is not payment for holding a right, but compensation for selling the put and bearing the risk of loss. Depending on the issuer's financial condition, payments of principal or interest may be delayed, but the main source of the relatively high coupon is the put premium.
If the stock price does not fall sharply and the note does not knock in, the investor receives the coupons and the principal is repaid in full. If the note knocks in and the stock price at maturity is below its initial level, the redemption amount falls below the principal. The dealer hedges the risk of the put it has bought by buying and selling options and the stock that is the underlying asset.
Learn more: Overview of Exotic Equity Products
Question 2
As a hypothetical example, an investor buys a dividend swap on a stock index. The buyer receives the dividends actually paid over the agreed period at maturity and pays a fixed dividend rate in return. Dividends are expressed in points, converted to index level; the fixed dividend rate is 30 points, and 1 point is worth 200,000 yen. The realized dividends at maturity are 24 points. What is the buyer's profit or loss at maturity?
Answer and explanation
Answer: D
The buyer's profit or loss is (realized dividends − fixed dividend rate) × the amount per point. (24 − 30) × 200,000 yen = −1.2 million yen, so the buyer bears a loss of 1.2 million yen. The result is the same if only the difference is settled.
If the realized dividends exceed the fixed dividend rate, the buyer gains, and if they fall short, the buyer loses. A profit of 4.8 million yen looks only at the 24 points the buyer receives (24 × 200,000 yen) and does not subtract the fixed dividend rate the buyer pays. A loss of 6 million yen looks only at the 30 points the buyer pays (30 × 200,000 yen) and does not add the dividends the buyer receives. A loss of 10.8 million yen counts the 54 points obtained by adding the 24 points received and the 30 points paid (54 × 200,000 yen) all as payments.
If the realized dividends were 36 points, the buyer would gain (36 − 30) × 200,000 yen = 1.2 million yen. Dividends cannot fall below 0, so the buyer's loss is at most 6 million yen, which is the loss when dividends are 0.
Learn more: Dividend Swaps and Futures
Question 3
As a hypothetical example, an investor buys a variance swap on a stock index. The strike is 25% in volatility terms (625 in variance terms). The vega notional is 1 million yen per volatility point, and the variance notional is the vega notional divided by twice the strike (in volatility terms). The realized volatility at maturity is 30% (900 in variance terms). How much does the buyer receive?
Answer and explanation
Answer: C
The variance notional is 1 million yen ÷ (2 × 25) = 20,000 yen. The buyer receives the variance notional × (realized variance − strike), so 20,000 yen × (900 − 625) = 5.5 million yen. Although the volatility difference is only 5 points, the difference of the squares is 275.
5 million yen is the volatility difference of 5 points multiplied by 1 million yen, without squaring. It matches the amount received on a volatility swap with the same 25% strike. On the upside, the amount received on a variance swap exceeds this value. 11 million yen divides the variance notional by the strike rather than by twice the strike (1 million yen ÷ 25 = 40,000 yen).
If the realized volatility is 20% (400 in variance terms), then 20,000 yen × (400 − 625) = −4.5 million yen, and the buyer pays 4.5 million yen. On a volatility swap with the same terms, 1 million yen × (20 − 25) = −5 million yen, so on the downside the variance swap buyer pays less.
Learn more: Variance Swaps and Volatility Swaps
Question 4
As a hypothetical example, the prices of a worst-of call and put referencing two stocks are calculated under the following assumptions. The price of both stocks is 100 yen, the volatility of both is 20%, the strike is 100 yen, the maturity is 1 year, and interest rates and dividends are 0%. Each stock follows geometric Brownian motion, and volatility and correlation are constant. When the correlation between the two stocks falls from 0.5 to 0, which describes the change in prices?
Answer and explanation
Answer: A
When correlation is low, there are more cases where one stock is up while the other is down, so the lowest value tends to be lower. A worst-of call pays only when even the lowest stock is above the strike, so its price falls. A put pays when any one stock is below the strike, so its price rises. Under these assumptions, the prices are a call of 3.7 yen and a put of 11.7 yen at a correlation of 0.5, and a call of 2.0 yen and a put of 13.3 yen at a correlation of 0 (per unit).
The idea that low correlation lets the moves offset each other and lowers the risk leads to the choice in which the put price also falls. A worst-of product looks only at the lowest stock, not at the offset total. The two choices in which the call price rises reverse the direction in which the lowest stock becomes more likely to fall.
When correlation falls, it works against the buyer of the call and for the buyer of the put. The seller is in the opposite position. Prices change with how volatility and correlation are set, so this direction is the result under the assumptions above.
Learn more: Worst-of Options
Question 5
As a hypothetical example, a buyer buys a cliquet on a stock index with a notional of 100 million yen and a term of 4 years, observed once a year. A local cap of 4% and a local floor of 0% are applied to each period's return, and a global cap of 8% and a global floor of 2% are applied to the sum; the resulting rate is applied to the notional. The returns for the periods are +6%, −3%, +2%, and −9%. How much is the payoff at maturity, ignoring the premium?
Answer and explanation
Answer: B
After the local cap and floor, the periods become 4%, 0%, 2%, and 0%, and the sum is 6%. Because 6% is between the global floor of 2% and the global cap of 8%, it becomes the payoff rate as it is, and 100 million yen × 6% = 6 million yen. Periods with a fall are not subtracted, so there is a payoff even though the index fell by about 4.6% over the whole term (1.06 × 0.97 × 1.02 × 0.91 ≈ 0.954).
8 million yen adds the rises of +6% and +2% without applying the local cap (8%). 2 million yen assumes that the index fell over the whole term, so only the global floor of 2% is paid. The sum after the local cap and floor, 6%, is above the floor of 2%, so the global floor does not take effect.
Even if the index rises by +6% in all 4 periods, each period becomes 4% under the local cap, and the sum of 16% is cut to the global cap of 8%, so the payoff is at most 8 million yen. Whether the payoff exceeds the premium decides the buyer's profit or loss.
Learn more: Cliquets
Question 6
As a hypothetical example, a structured note with an autocall feature, with a face value of 1 million yen and an initial stock price of 2,000 yen, was not redeemed before maturity. If the stock price falls to 1,200 yen or lower, the note knocks in and the redemption is 1 million yen × the stock price at maturity ÷ 2,000 yen; otherwise it is 1 million yen. The lowest price during the term was 900 yen, and the stock price at maturity was 1,250 yen. What are the redemption amounts at maturity, excluding coupons, for a type judged only on the stock price at maturity and a type judged on the stock price during the term?
Answer and explanation
Answer: C
In the type judged only on the stock price at maturity, the stock price at maturity of 1,250 yen is above the knock-in level of 1,200 yen, so the note does not knock in and the redemption is the face value of 1 million yen. The lowest price during the term, 900 yen, is not used. In the type judged on the stock price during the term, the lowest price of 900 yen is at or below the level, so the note knocks in, and the redemption is 1 million yen × 1,250 yen ÷ 2,000 yen = 625,000 yen.
The pair with the types reversed mixes up how the two types look at the stock price. 450,000 yen uses the lowest price of 900 yen, not the maturity price, in the redemption calculation when the note knocks in (1 million yen × 900 yen ÷ 2,000 yen). The pair with 1 million yen for both types overlooks that the lowest price during the term is below the knock-in level.
If the stock price at maturity is exactly 1,200 yen, the note knocks in even in the maturity-only type and the redemption is 600,000 yen, and if it is even slightly above 1,200 yen, the redemption is 1 million yen. The loss when the note knocks in has the same form as selling a knock-in put, which takes effect only after the knock-in.
Learn more: Autocallables