INFORMATION ON FINANCIAL INSTRUMENTS

Transcription

1 INFORMATION ON FINANCIAL INSTRUMENTS November 2017

2 SUMMARY 1 INFORMATION ON FINANCIAL INSTRUMENTS

3 1 INFORMATION ON FINANCIAL INSTRUMENTS The information in this note does not describe all the risks and the significant aspects regarding the investments in financial instruments and the investment and ancillary services, but it is aimed at providing some basic details about the characteristics and the risks connected to such investments and services. In particular, the illustrated risks are an example and cannot be considered as exhaustive, also due to the fact that any financial transaction implies an unpredictable component. 1.1 The main types of financial products and instruments a.equity securities (representing the risk capital or in any case convertible into risk capital) This category includes the following instruments: shares, option rights, convertible bonds. Shares Those who purchase shares become shareholders of the issuer company, fully participating in the economic risk of the company; those who invest in shares have the right to receive each year the dividend on the profit obtained in the reference period, which the relevant body of the issuer company will decide to distribute. The relevant body of the issuer company may in any case decide not to distribute any dividend. In particular, shares give the holders specific rights: administrative rights (voting right, right to challenge the resolutions of the shareholders meeting, right of withdrawal, option right) and economic-capital rights (right to the dividend, repayment right). Option rights These are financial instruments that give shareholders and the holders of convertible bonds the right to subscribe, at the time of capital increase or when issuing a convertible bond, a number of securities that is proportional to the shares already held or that can be potentially held based on the conversion ratio relating to the outstanding convertible bonds. Convertible bonds Convertible bonds offer their holders the right to remain a creditor of the issuing company (and therefore to preserve the status of bondholder), or to convert the bonds into shares of the issuing company or of another company, thus becoming a shareholder of the company. b. Debt securities By acquiring debt securities, the investor becomes one of the parties financing the company or entities that issued them and is entitled to receive the interest normally provided by the issuing regulations and the reimbursement of the capital at maturity. Bonds are different from equities because, while the latter ensure their holders the right to participate in the company s management and a dividend, which is subject to the presence of profits, the former attribute the holder only a credit right, which must in any case be met at the set expiry, regardless of the results of the financial period. With other conditions staying the same, an equity security is riskier than a debt security, since the remuneration due to the holder is more linked to the economic performance of the issuing company. Instead, holders of debt securities will risk not to be remunerated only in case of financial difficulties of the issuing company. In addition, in case of insolvency of the issuing company, holders of debt securities may participate, with the other creditors, in the subdivision - which, in any case, usually occurs over a very long period of time - of the income deriving from the sale of the company s assets, while it is normally excluded that holders of equity securities may be returned a part of the invested capital. Bonds are included among the debt securities. Depending on the issuer, bonds are essentially divided into the following categories: - government securities or government bonds, i.e. instruments issued by national governments, including those from Emerging Countries, both in Euro and in currencies other than the Euro, which envisage redemption of the nominal value on the maturity date and a coupon yield or a yield resulting from the difference between the nominal value (or sales price) and the issue price (or purchase price). - corporate bonds, i.e. securities issued by companies, essentially banks and industrial companies, which feature greater returns than those of government securities with similar maturity. This category includes a wide range of bonds: the simplest fixed-rate bonds (which envisage the payment of a yield calculated based on a steady interest rate for the entire duration of the loan), floating rate bonds (which envisage payment of a yield calculated based on an interest rate which may change over the duration of the loan), index-linked bonds (whose yields and/or redemption value depend on the performance of a benchmark parameter) and guaranteed bonds (which feature limited risks as they are guaranteed by assets that, in case of the issuer s insolvency, are allocated, as a priority, to the satisfaction of the rights of the noteholders) are accompanied by bonds featuring greater risks, i.e. structured and subordinated bonds. In particular: the structured bonds are made up of a bond component, with or without coupon, and one or more "derivative" components, i.e. derivative financial instruments (options or swaps). The holder of the security takes on the 3

4 position of purchaser of the bond component and, at the same time, purchaser or seller of the derivative component. A structured bond in which the holder implicitly purchases the derivative is a capital-protected product (i.e. purchase of an option). Vice versa, if the holder makes an implicit sale of the derivative (i.e. sale of an option), the instrument becomes an atypical product which does not guarantee the full repayment of the invested capital. The holders of these types of securities are thus not subject to the normal risks of holding debt securities, but also to the risks of the derivative component embedded in the structured bond; instead, with subordinated bonds, the holder ranks below the other creditors of the company in the event of the issuer's reimbursement of debt upon liquidation and this increases the normal issuer risk with regard to debt securities. The holder's credit claims against the issuer are satisfied only after other non-equally subordinated creditors have been satisfied and provided that there are remaining assets. The actual characteristics of subordinated securities are such that the holder of such securities is the first creditor to feel the effects of any financial troubles for the issuing company; - supranational securities, such as bonds issued by international institutions and entities which cannot be identified with a single country, as they are participated in by multiple sovereign states. The main feature of these securities involves the risk of insolvency of these issuers, which is normally low, as financial difficulties of one state are usually offset by the relative stability of the other states; - asset-backed securities ( ABS ), such as bonds issued for securitisation transactions, pay holders a series of coupons at set deadlines, in amounts set based on fixed or floating interest rates. The holder of these securities assumes the risk of full or partial non-payment of the capital loaned when the amount of the assigned receivables securitised is not fully or partially collected. c. Collective Investment Undertakings (CIUs) Collective investment undertakings include mutual funds and SICAVs (investment companies with variable capital). Collective investment undertakings are divided into harmonised collective investment undertakings and non-harmonised collective investment undertakings. Harmonised collective investment undertakings include mutual funds and SICAVs which comply with EU Directive no. 85/611/EEC and subsequent amendments. The above-mentioned EU Directive introduced a series of minimum requirements relating to the authorisation procedures, as well as to the control, structure, activities and information which collective investment schemes must comply with. Non-harmonised collective investment undertakings instead feature greater freedom when investing the collected assets. Mutual funds Mutual funds means the autonomous assets, subdivided into units, belonging to a variety of participants but managed as a whole. The assets of mutual funds are entrusted to a manager (Asset Management Company) but the assets comprising the fund are autonomous and separate from both those of the individual participants in the fund and those of the asset management company. The asset management company plays a central role in the operation of mutual funds: it manages the assets entrusted to it by the savers, via purchase and sales transactions and any other management action that it deems suitable or useful to increase the value of the fund and possibly distribute the relevant income to the participants and that is not precluded by regulations and provisions issued by supervisory bodies and the fund s regulations. Mutual funds may be open-ended or closed-ended. "Open-ended fund" means a fund in which the participants have the right to ask at any moment for the repayment of the units, according to the methods set by the fund s regulations. Closed-ended fund means a fund where the right to repayment of the units is granted to the participants only on pre-set maturities. Each fund features a predefined portfolio composition in terms of asset classes. In this respect funds are divided into funds investing in transferable securities and real estate funds; the former include the following categories of funds: (i) equity funds, (ii) balanced funds, (iii) bond funds, (iv) liquidity funds and (v) flexible funds. On the contrary, real estate funds invest in property. SICAVs SICAVs collect capital from savers and invest it in financial markets. They differ from mutual funds mainly due to the fact that the subscriber does not buy units, but shares of the company. SICAVs are often umbrella funds, i.e. they divide their assets into various possible classes. d. ETFs The Exchange Traded Funds ( ETF ) are funds with at least one particular category of shares or units traded for the entire day in at least one Trading Venue, for which at least one market-maker intervenes to make sure that the price of its shares or units in the Trading Venue does not significantly deviate from the respective net inventory value nor, if applicable, from the indicative value calculated in real time (indicative NET asset value). It is a type of CIU whose units are traded in the Trading Venues as simple shares and whose yield is equal to the performance of the underlying index: the sole investment goal of the ETF is that of replicating the benchmark index 4

5 through completely passive management by buying in the same proportion the financial instruments that make up the basket of the benchmark index or by creating the portfolio with an optimised sample of financial instrument (fixed replication). It summarises the typical characteristics of a fund and a share: like mutual funds, it allows the portfolio to be diversified with a single investment; like equities, it can always be traded in the reference market with listings in real time. It may pay periodic proceeds or provide for their reinvestment. The following types are added to this type of ETF: - structured funds whose units are traded as simple shares with techniques aimed at pursuing yields that do not only depend on the performance of the index to which they refer but that may also be aimed at: a) protecting the invested capital though participating in any rises in the benchmark index; b) participating, through leveraged mechanisms, in a manner that is more than proportional to the performance of the benchmark index, by multiplying the gains or losses; c) participating, in an inversely proportional manner, in the movements of the benchmark index, generating proceeds when this decreases; d) implementing more complex investment strategies; - synthetic (synthetic replication), also called swap-based, whose replication of the index is not obtained through the purchase, according to the same proportion, of the financial instruments that make up the basket of the benchmark index or with the creation of a portfolio with an optimised sample of financial instruments but rather by entering into a derivative contract (swap). With the swap contract, the ETF invests in a basket of financial instruments, called substitute basket, and pays the performance of the mentioned basket to the swap counterparty, which in turn pays back to the ETF the yield of the benchmark index, net of the costs. The swap contract introduces a potential counterparty risk given by the risk of the subject with which the derivative was subscribed not honouring the guarantees undertaken. e. ETCs Exchange Traded Commodities ( ETC ) are instruments with no maturity (similar to zero coupon bonds with no maturity) issued by a vehicle company in relation to the issuer's direct investment in commodities (e.g. gold, platinum, silver, palladium, sugar, soy, oil etc.), and in this case they are defined as physically-based ETCs, or in derivative contracts (e.g. futures) on commodities. Unlike ETFs, which must ensure a certain level of diversification, ETCs may also refer to an individual commodity or to poorly diversified indices. The value of ETCs is therefore directly or indirectly linked to the price performance of commodities or commodity indices, possibly converted into Euro if the trading currency is different from the European currency. On the EtfPlus market of Borsa Italiana, ETCs are traded as shares and are subject to the risks connected to the partial or total loss in value of the commodities (or the commodity index) and the risk of default of the issuing company. There are also synthetic or swap-based products among ETCs. In the case of ETCs offering to replicate a perishable commodity, the issuers are obliged to use a synthetic structure, while for the ETCs offering to replicate a precious metal (gold, platinum, silver and palladium) it is possible to choose between physical replication, by directly investing in physical precious metals, or synthetic replication. f. ETNs Exchange Traded Notes ( ETN ) are instruments with no maturity issued by a vehicle company in relation to the issuer's direct investment in the underlying (other than commodities) or in derivative contracts on the same. The criterion that distinguishes ETNs from ETCs is only the nature of the underlying: when it is a commodity it refers to ETCs, while in every other case to ETNs. The value, trading, and risks are the same as for ETCs. g. Warrants - Covered Warrants Certificates Warrants A warrant is a security incorporating an option, which gives the purchaser the right to purchase, subscribe or sell (with or without the leverage effect) a certain quantity of underlying assets represented by financial instruments, at a set price (strike price), at or by a specific expiry date (expiry), based on whether the warrant is European or American. The issuer of the warrant may also be different from the issuer of the underlying assets. A call warrant is particularly used by the companies in order to make their bonds (bonds with warrant) more attractive or in order to collect new financial resources via capital increases. A warrant is an instrument which may circulate separately compared to the main financial instrument. Covered Warrants A covered warrant is a security incorporating an option (with or without the leverage effect) and gives the purchaser the right to purchase or sell a certain quantity of underlying assets represented by financial instruments, indexes, currencies, 5

6 interest rates, goods or precious metals, at a set price (strike price), at or by a specific expiry date, based on which the covered warrant is either European or American. Plain vanilla covered warrants constitute the simplest category: they only incorporate the covered warrant call or put options; structured or exotic covered warrants are more complex: they incorporate a combination of more call and/or put options and/or some exotic options (e.g. the covered warrants on rates, rainbow covered warrants). Certificates A certificate is a negotiable security (which may incorporate one or more options) which gives the purchaser the right to participate (with or without the leverage effect) in the change in the present market value of the underlying asset and to receive (at the time of exercise) at or by a specific expiry date, based on whether the certificate is either European or American, the underlying activity or monetary settlement, if positive, of the present market value of the underlying asset. In case of reimbursement of the investment by the issuer, they have a higher rank than shares, but lower than unsecured bonds and other similar instruments. Certificates without leverage effect are called investment certificates, those with leverage effect, leverage certificates. 1.2 Assessing the risk of an investment in financial instruments In order to understand and assess the risk arising from an investment in financial instruments, the following elements must be considered, among others: a. the variability of the price of the financial instrument; b. its liquidity; c. the currency it is denominated in; d. other general risk factors. a. Price variability The price of each financial instrument depends on numerous circumstances, and may vary slightly or significantly depending on the instrument's nature. a.1 Equity securities and debt securities, composite or connected investments Firstly it is necessary to distinguish between equity securities (shares are the most common of this category) and debt securities (bonds and certificates of deposit are among the most common). With other conditions staying the same, an equity security is riskier than a debt security, since the remuneration due to the holder is more linked to the economic performance of the issuing company. Instead, holders of debt securities will risk not to be remunerated only in case of financial difficulties of the issuing company. In addition, in case of insolvency of the issuing company, holders of debt securities may participate, with the other creditors, in the subdivision - which, in any case, usually occurs over a very long period of time - of the income deriving from the sale of the company s assets, while it is normally excluded that holders of equity securities may be returned a part of the invested capital. Composite or connected investments regard a combination of several products or services, each with their own characteristics and risks, purchased as part of a single investment decision. In such case, the relationship between the various components of the investment may entail a modification of the risks inherent in each component and, therefore, the assumption of risks that are typical of the particular type of investment, other than those of the various components. a.2 Specific risk and generic risk For both equity securities and debt securities, the risk may be ideally broken down into two components: specific risk and generic (or systematic) risk. Specific risk depends on the distinctive features of the issuer (see point a.3 below) and may be substantially decreased through the subdivision of the investment into securities issued by various issuers (portfolio diversification), while systematic risk represents the part of the price variability of each security that depends on market fluctuations and may not be eliminated via diversification. Generic risk for equity securities traded on a regulated market ( RM ) or on a multilateral trading facility ( MTF ) or on an organised trading facility ( OTF ) ( Trading Venue ) originates from changes in the market in general - changes that can be identified in the movements of the market index. For debt securities (see point a.4 hereunder) it originates from changes in market interest rates that affect the prices (and thus, the yields) of the securities; the effect is more pronounced the longer the residual maturity (the residual maturity of a security at a given date is represented by the period of time that must elapse from such date until the redemption of the security). a.3 Issuer risk For investments in financial instruments it is essential to appreciate the financial solidity of the issuing companies and their economic prospects, considering the characteristics of the sectors these operate in. 6

7 It is worth considering that the prices of the equity securities reflect at any moment an average of the expectations that the participants in the market have about the earning prospects of the issuing companies. With reference to debt securities, the risk that the issuing companies or financial entities are not able to pay the interest or repay the borrowed capital is reflected by the interest that these bonds guarantee the investor. The greater the perceived risk of the issuer, the greater the interest rate that the issuer must pay the investor. To assess the appropriateness of the interest rate paid by a security, it is worth taking into account the interest rates paid by the issuers whose risk is considered lower, and in particular the yield offered by the government bonds, with reference to issues with the same maturity. a.4 Interest rate risk With reference to debt securities, the investor should consider that the actual measurement of the interest is continuously adjusted to the market conditions through variations in the price of the same securities. The yield on a debt security will get close to that as of the purchase date only if the security is held by the investor until maturity. Should the investor need to convert the investment into cash before the security's maturity, the actual yield could turn out to be different from that guaranteed by the security at the time of its purchase. In particular, for securities which include the payment of interest in a predefined manner that cannot be changed during the duration of the loan (fixed-rate securities), the longer the residual life, the greater the variability of the price of the security, compared to changes in market interest rates. Therefore, it is important that the investor, in order to assess the adequacy of his/her investment in this security category, checks within what time he/she may need to liquidate the investment. a.5 Country Risk If the equity and/or debt securities are issued by entities with headquarters in an Emerging Country and/or are denominated in the related national currency, a deterioration of the country's economic, social and political situation could generate high levels of volatility in the internal markets, with the resulting decrease in the price of the security and/or the worsening of the exchange rate. In the event of the issuer s insolvency, the investor may not receive, on liquidation, the value of the equity securities or the redemption of the capital loaned (and/or the accrued coupons) for the debt securities held. a.6 Market Risk This is the risk referring to the investment in financial instruments connected to the development of the market in general: it does not depend on the intrinsic characteristics of individual financial instruments, but it depends on changes in market conditions. a.7 Option risk If the yield of a financial instrument is linked to the performance of a benchmark parameter (shares, currencies, inflation rates, commodities, money market rates, indexes) through the embedding of one or more derivatives in the instrument, the value of the instrument may decrease sharply as a result of the loss in value of the security's derivative component. a.8 The effect of investment diversification a.8.1 Collective Investment Undertakings (CIUs) By participating in a mutual fund, the subscriber owns a portion of the assets of the fund equal to the units of investment he holds, and is not exposed to the risk of issuer or fund insolvency, even in the event that the companies that oversee or oversaw the activity of establishment, management, administration, etc. are insolvent. Vice versa the subscriber is exposed, inter alia, to the risk of impairment of the shares, bonds or other financial instruments the mutual fund's assets are invested in (i.e. the various types of securities envisaged by the regulations or investment programmes implemented) or that the companies issuing said instruments become insolvent. Similar to mutual funds in the methods of collecting and managing assets, but different in legal and tax terms, SICAVs have legal personality and their assets are represented by shares rather than units. In SICAVs, investors become shareholders and subscribe shares directly issued by the company, without separation of assets and, therefore, investors are subject to the risk of insolvency of the company. Likewise, it should be emphasized that investments in these types of financial instruments may also be risky due to the characteristics of the financial instruments in which the funds can invest (for example, mutual funds which invest only in securities issued by companies operating in a given sector or in securities issued by companies having their head office in specific countries) or due to insufficient diversification of the investments. a.8.2 ETFs The buyer of an ETF (i) is not exposed to the risk of default of the issuing company, but is exposed (ii) to the risk that the shares, the bonds and the financial instrument the ETF invests the assets in lose their value partially or totally and (iii) to the exchange rate risk if the reference currency of the index is different from the trading currency (euro): the yield may thus diverge from the benchmark one consequently to the devaluation/revaluation of this currency compared to the euro. b. Liquidity and trading venues 7

8 b.1 Definition of liquidity The liquidity of a financial instrument consists in its ability to be divested quickly and with no loss in value. In the first place this depends on the characteristics of the market in which the security is traded. In general, with all other conditions being equal, the securities traded on the Trading Venues are more liquid than the securities not traded on such Venues. This is due to the fact that the supply and demand of securities is mostly conveyed on these markets and, therefore, the prices calculated therein are more reliable as indicators of the actual value of the financial instruments. It should nonetheless be noted that the conversion into cash of securities traded in the Trading Venues to which access is difficult (because they are in distant countries or for other reasons) may entail difficulty for the investor and the need to incur additional costs. b.2 Trading Venues Trading Venue means a Regulated Market, a Multi-lateral trading facility or an Organised trading facility. b.3 Regulated Market ( RM ) A multilateral facility administered and/or managed by a market manager, which allows or facilitates, within it and according to its non-discretionary rules, multiple third-party buying and selling interests in financial instruments to meet in a way that results in contracts relating to financial instruments admitted to trading in compliance with its rules and/or its systems, and that is authorised and operates regularly and in compliance with the related rules. b.4 Multilateral trading facility ( MTF ) A multilateral facility managed by an investment firm or by a market manager that brings together, within it and based on its non-discretionary rules, multiple third-party buying and selling interests in financial instruments in a way that results in contracts in compliance with the related rules. b.5 Organised trading facility ( OTF ) A multilateral facility other than a regulated market or a multilateral trading facility that allows the interaction between multiple third-party buying and selling interests regarding bonds, structured financial instruments, emission allowances and derivative instruments in a way that results in contracts in compliance with the related rules. c. Currencies and the exchange rate risk If a financial instrument is denominated in a currency other than the investor s reference currency, typically the Euro for Italian investors, in order to assess the overall risk of the investment it is necessary to consider the volatility of the exchange rate between the reference currency (the Euro) and the foreign currency in which the investment is denominated. The investor should bear in mind that the rates of exchange with currencies of many countries - and in particular, emerging countries - are highly volatile, and that the trend of exchange rates may condition the overall investment return. d. Other general risk factors d.1 Cash and negotiable instruments deposited The investor needs to find out about the safeguards provided for sums of cash and negotiable instruments deposited for the execution of the transactions, and in particular, in the event of the insolvency of the intermediary. The possibility of regaining possession of one's own cash and negotiable instruments on deposit could be conditioned by specific regulatory provisions prevailing in locations in which the depository has its registered office as well as by decisions of entities empowered to administer the assets of an insolvent entity. The information relating to the deposit and sub-deposit of the financial instruments is reported in paragraph 3 of this Section. d.2 Commissions and other charges Before initiating any transactions, the investor needs to get detailed information about the fees, commissions, expenses and other charges that shall be due to the intermediary for rendering the services. The investor needs to keep in mind that such fees, commissions, expenses and charges must be subtracted from any earnings obtained from the transactions, while they are added to any losses incurred. d.3 Transactions performed in markets located in other jurisdictions The transactions performed in markets located abroad, including the transactions concerning financial instruments handled also in domestic markets, may expose the investor to additional risks. These markets could be regulated in such a way as to offer reduced guarantees and protection to investors. The investor should also consider that in such cases the regulatory authorities cannot ensure the respect of the regulations prevailing in the jurisdictions where the transactions are to be executed. 8

9 d.4 Electronic trading support systems Most electronic trading and open outcry systems are supported by computerized systems for the following procedures: order routing, cross-checking, transaction registration and settlement. Like all automated procedures, the systems described above may suffer temporary stoppages or be subject to malfunctions. The possibility for the investor to be compensated for losses deriving directly or indirectly from the events described above could be compromised by responsibility limitations established by the suppliers of the systems or the markets. d.5 Electronic trading systems Computerized trading systems may differ from one another as well as from outcry trading systems. The orders to be performed on markets that use computerized trading systems may turn out not to be performed according to the methods specified by the investor or not to be performed at all in the case where these trading systems suffer malfunctions or stoppages attributable to the hardware or software of the systems. d.6 Transactions executed outside of RMs, MTFs or OTFs Intermediaries can execute transactions outside of RMs, MTFs or OTFs. The intermediary used by the investor may also act as its direct counterparty (i.e. trading for own account). In the case of transactions executed outside of RMs/MTFs/OTFs, it may be difficult or impossible to liquidate a financial instrument or to measure the instrument's actual value and to assess the actual risk exposure, particularly when the financial instrument is not traded on any RM, MTF or OTF. These transactions entail the assumption of higher risks for these reasons. d.7 Risk connected to bail-in Where relevant in relation to the specific instrument subject to the investment, it should be noted that, even regardless of a formal declaration of insolvency, in case of disruption or risk of disruption of the issuer, the instrument may be subject to the application of the bail-in, pursuant to Directive 2014/59/EU (BRRD), which implies the devaluation, up to zero, of the credit of the investor or its conversion into shares. d.8 Risks connected to repurchase agreement transactions Repurchase agreement transactions carry, in addition to the typical risks of investments in financial instruments already shown, the assumption of additional and specific risks by the customer. The risk of default by the counterparty is highlighted in particular. Specifically, this is the risk of the Bank not being able to repurchase the securities subject to the contract at the pre-set term. In addition, also where the customer has the possibility of settling the securities by selling them directly on the market, if the securities subject to the repurchase agreement transactions were issued by Bank, the customer must consider that, in case Bank is in a state of insolvency, the sale of these securities on the market could be subject to significant limitations or prove impracticable. 1.3 The riskiness of investments in derivative financial instruments Derivatives financial instruments are marked by very high risk; the customer s understanding of such risk is made more difficult by the complexity of the instruments. It is therefore necessary that the customer enters into a transaction in such instruments only after having understood the nature and the degree of risk exposure involved. The customer needs to consider that the complexity of such instruments may result in the transaction being assessed as unsuitable: the trading of derivative financial instruments is generally not suitable for many customers. Derivative financial instruments may expose the customer s assets to a risk of loss even higher than the capital initially invested (leverage effect), as well as, depending on the underlying, to the exchange rate risk, the risk of fluctuations in the interest rate or in the value of indices, commodities or other underlying assets. The risks illustrated above are also common to complex financial instruments that have a derivative component (e.g. structured bonds). In the case of financial instruments not traded in regulated markets, the risk of the reliability of the counterparty of the various derivative contracts is added to these risks. Below are some risk characteristics of the most common derivative financial instruments. a. Warrant covered warrant e certificates The customer may sell the derivative financial instruments indicated above prior to maturity (disinvestment). Disinvestment may generate the collection of a higher or lower amount than that of the Premium paid and, thus, a gain or a loss. The maximum loss for the customer is equal to the invested capital, meaning the amount paid to purchase/subscribe/sell the aforementioned derivative financial instruments (the Premium). Profit for the customer usually equals: - for warrants, the difference between the present market value of the underlying at the time of exercise, and the strike price, minus the Premium; 9

10 - for covered warrants, the difference between the present market value of the underlying and the strike price, minus the Premium, if a call warrant; the difference between the strike price and the present market value of the underlying, minus the Premium, if a put warrant; - for certificates, the present market value of the underlying, minus the Premium at the time of exercise of the aforementioned derivative financial instruments, if American style; at maturity, if European style. For warrants and covered warrants, the ratio of the present market value of the underlying to the Premium, and for certificates, the ratio of the Premium to the present market value of the underlying (multiplied by the multiple/par or the number of underlying covered by the covered warrants and certificates) is defined as financial leverage. Use of the leverage effect involves multiplying the positive or negative performance of the investment compared to changes in the present market value of the underlying, equal to the amount of the leverage. b. Futures Futures carry a high degree of risk. The amount of the initial margin is lower than the value of the contracts and this produces the so-called leverage effect. This means that a relatively small movement in market prices will have a proportionally higher impact on the guarantee margins and this effect may be favourable or unfavourable for the investor. The margin paid initially, as well as the additional payments made to maintain the position, may as a consequence be completely lost. If the market movements are unfavourable for the investor, he/she could be required to provide additional funds at short notice in order to keep his/her position open in futures and, in the hypothesis of failed payment of the additional amounts requested, the position could be liquidated at a loss and the investor would be liable for any other liability produced. c. Transactions in derivative instruments carried out outside of the regulated markets (OTC) This paragraph contains a brief description of the characteristics and of the risks associated with the most used derivative financial instruments traded outside of the Trading Venues (OTC) such as swaps and options. Intermediaries can execute transactions in OTC Derivatives. The Bank used by the customer usually acts, for such contracts, as the customer s direct counterparty (i.e. trades on its own account). In this case, the price applied by the Bank to the customer is determined using a methodology adopted by the Bank, compliant with the methods generally used on the market, which uses multiple parameters, indexes and all relevant factors taken from primary sources. Except when the Bank acts as the customer s direct counterparty, in the event of transactions executed outside the Trading Venues, it may be difficult or impossible to liquidate a position. For all the transactions briefly described in this paragraph, it may be difficult to appraise a position's actual value and to assess actual risk exposure. Such transactions entail the assumption of higher risks for these reasons. For a description of the characteristics, operating methods and risks of these types of transactions, please refer to the specific contract that governs transactions in OTC derivatives and the specific information documents prepared by the Bank. c.1 Swap contracts Swap contracts carry a high degree of risk. Since they are not traded in a Trading Venue and with no standard form existing (rather, standardised contract models exist, which are usually adapted to each case), it might not be possible to terminate the contract before the agreed expiry without incurring high charges. At the execution of the contract, the value of a swap is zero, only in theoretical terms: the conditions of the transaction must be established in such a way that the actual value of the expected cash flows paid by one party is equal to the actual value of the expected cash flows paid by the other party. In reality, the origination and execution of the transaction involves costs for the Bank, which would not be covered if the transaction is finalised in accordance with the theoretical principle described above, that is, at a rate in line with the average market value and, therefore, with a starting value equal to zero. Besides covering the costs and risks of the transaction, the Bank also needs to assure itself an economic return. Consequently, the effective agreed price of the transaction is never zero, not even at the signing of the contract, because it takes account of the costs and risks incurred by the Bank and the return for the Bank, as explained in greater detail in the pre-contractual and contractual documentation. The initial net value of a swap is never equal to zero, but always positive for the Bank and negative for the customer. The initial value can change rapidly, in negative or positive direction for the customer, depending on the movements in the parameter to which the contract is linked. If the swap is renegotiated, the value of the new transaction includes, either in part or in whole, the mark-to-market value (current market value determined by the Bank according to criteria that are generally accepted on the market itself) of the renegotiated transaction, origination costs incurred by the Bank, and the return for the Bank. Before entering into a contract, the investor needs to be sure that he/she has thoroughly understood the way in which and the rapidity with which the changes in the parameter of reference affect the determination of the differentials that the investor will have to pay or receive. In certain situations, the investor may be called by the Bank to pay guarantee margins, even before the date for settling the differentials. For these contracts, it is particularly 10

11 important that the transaction counterparty is financially solid since any differential originating in favour of the investor will only be actually cashed if the counterparty is solvent. In the case the contract is entered into with a third party counterparty other than the Bank, the customer must be sure of its stability and ascertain who is answerable in the case of insolvency of the counterparty. If the contract is entered into with a foreign counterparty, the risks of proper performance of the contract may increase depending on which regulations apply to the specific case. c.2 Option contracts Option transactions carry a high degree of risk. A customer that intends to trade options needs to understand beforehand how the chosen types of contracts (put and call) work. c.2.1 The purchase of an option Buying an option, which is a highly volatile instrument, also involves the risk of the option having a zero value on expiry. In that case, the customer will lose the Premium, plus commissions. After buying an option, the customer can maintain the position up to expiry or, for American type options, exercise the option prior to expiry. Exercising the option may involve the cash settlement of a differential or the purchase or delivery of the underlying asset. c.2.2 The sale of an option Selling an option generally involves a much higher risk compared to buying an option. Indeed, even if the Premium received for the option sold is fixed, the losses that can be produced for the seller can be potentially unlimited. If the option sold is of the American type, the seller may be requested at any time to settle the transaction in cash or buy or deliver the underlying asset. The seller s risk exposure can be reduced by holding a position on the underlying asset, equivalent to that for which the option was sold. 11