Template:M summ Equity Derivatives 8
On the difference between Final Price and Relevant Price
Final Price is defined in Article 5 of the 2002 ISDA Equity Derivatives Definitions and is germane therefore to Equity Swap Transactions only and not, say, Forward Transactions (which, circuitously, rely instead on Relevant Price, albeit defined in a similar way).
The Final Price also has separately broken-out scenarios for Basket Transactions (being just the weighted sums of the individual components in the basket). Relevant Price doesn’t bother to break these out — whether that is because Share Basket Forwards behave differently to Basket Swaps, or just because ISDA’s crack drafting squad™ was losing the will to live, is a question to which we have yet to get to the bottom.
Don’t hold your breath.
Cash Settlement of Equity Swap Transactions under Section 8.6
Equity Swap Transactions can be settled either by reference to Price Return or Total Return, but not slight return.
Under Section 8.6 (Cash Settlement of Equity Swap Transactions) where “Cash Settlement” applies, a payment is made on each Cash Settlement Payment Date depending on the Type of Return specified as follows:
Price Return
Price Return is simply a function of the price at the beginning and end, and takes no account of declared dividends or other income or distributions received off the underlier in the meantime. It is simply
Where “Rate of Return” is
((Final Price - Initial Price)/Initial Price) * any Multiplier
The Equity Amount is paid one way or the other depending on whether it is positive or negative.
Total Return
Total Return is the Price Return, but adjusted for income.
Where Re-investment of Dividends does not apply, the Equity Amount Payer must pay Dividend Amounts along with the Equity Amount, whichever way it might be paid, as per Price Return.
Where Re-investment of Dividends does apply, then Equity Amounts will be adjusted as per the “Re-investment of Dividends” provision.
Types of return
If you have an Equity Swap Transaction referencing a future, some debate — not all of it necessarily fruitful, but undoubtedly special in the hearts of those who enjoy metaphysical conundrums — can be had as to whether one should select Price Return or Total Return as your Type of Return, but since futures don’t generally pay dividends, on point of practical fact there is not a lot of difference, so such debate can aggravate intensely practical people such as my little sister, who despair of metaphysical conundrums.
But okay, dammit, let’s hop off the fence and stick Occam’s razor into the ointment: Since Total Return is Price Return with some extra fiddly bits relating to dividends — including the need to choose whether or not you want your dividends deemed to be reinvested — then all other things being equal — such as when, as for futures, there are no dividends for you to elect whether or not to reinvest — Price Return is the simpler, and therefore preferred, definition. There: for Equity Swaps on futures, go for Price Return.