Template:Capsule equity derivative dividend payments: Difference between revisions
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Amwelladmin (talk | contribs) Created page with "===Manufacturing dividends under an equity swap=== You will quickly come to realise that the equity derivatives definitions regarding payment of dividends might as wel..." |
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===[[Manufacturing]] dividends under an [[equity swap]]=== | ===[[Manufacturing]] dividends under an [[equity swap]]=== | ||
You will quickly come to realise that the equity derivatives definitions regarding payment of dividends might as well have come from a dungeon deep in the brain of MC Esher. {{icds}}, with its yen for infinite particularity and optionality, has | You will quickly come to realise that the equity derivatives definitions regarding payment of dividends might as well have come from a dungeon deep in the brain of MC Esher. {{icds}}, with its yen for infinite particularity and optionality, has formulated alternate mechanisms to [[manufacturing|manufacture]] dividends by reference to three key stages in the dividend distribution process in an underlying [[security]]: the '''[[record date]]''' (being the date on which a [[holder of record]] becomes entitled to a dividend payment), the '''[[ex date]]''' (being the date on which the underlying shares trade clean of the dividend payment in the market, which will be one [[settlement cycle]] ''before'' the [[record date]]), and the '''[[dividend payment date]]''' itself (being the date on which the underlying dividend distributions actually hit holders’ bank accounts). In the [[JC]]’s view, as explained below, this is a classic case of overengineering. | ||
Also, note this: the [[ex date]] and the [[record date]] logically come ''before'' the [[dividend payment date]]. They will usually precede it by weeks or even months. So if your {{eqderivprov|Dividend Period}}s are short (e.g., monthly), it is quite likely that the [[ex date]] and [[record date]] will fall in an earlier {{eqderivprov|Dividend Period}} then the [[dividend payment date]]. | |||
If you elected {{eqderivprov|Ex Amount}} or {{eqderivprov|Record Amount}}, this would mean your [[equity swap]] would pay its {{eqderivprov|Dividend Amount}} ''before'' the underlying share paid its actual dividend. | |||
Spoiler: that’s stupid. | |||
The point of a derivative is to replicate, as closely as possible, the economics of its reference asset. Not only does electing {{eqderivprov|Ex Amount}} or {{eqderivprov|Record Amount}} introduce ''arbitrary<ref> arbitrary because it is totally dependent on whether the [[ex date]] falls in the same {{eqderivprov|Dividend Period}} as the actual payment date, which in turn will be a function of the registrar’s schedule and nothing to do with the Issuer.</ref> timing'' “[[basis]]” between the derivative and its underlying security, it also potentially introduces ''credit'' “[[basis]]”, because an underlying issuer which has ''[[Declaration date|declared]]'' a dividend may not ultimately be able to pay it — if it has become [[insolvent]] in the meantime, which could be a period of months. Now ''some'' timing basis between a [[derivative]] and its underlying is inevitable — the derivative payment will lag the underlying payment — but credit basis is certainly not. ''Derivatives are not meant to guarantee the performance of the underlying securities they reference''<ref>Okay I realise that seems not to be true for [[credit derivatives]]. But even there, the credit protection “buyer” is effectively ''short'' the derivative exposure. It is simply confused because in the classic case, the protection “seller” was an investor ''buying'' a [[CDO]] which is an instrument which securitises a short [[credit derivative]].</ref>. In fact, that is utterly antithetical to the very definition of the word “derivative”. |