Depending on their structure, discount certificates can generate a sideways return in slightly rising or slightly falling markets. Thus, discount certificates offer a disproportionately high potential return in markets with little movement.
How do discount certificates work?
Discount certificates can reduce the risk of loss. They trade at a discount relative to the underlying asset, meaning investors can purchase the certificate at a lower price than the underlying asset on which the certificate is based. However, this discount not only ensures a yield advantage over a direct investment but also provides a safety buffer.
Investors only incur losses if the underlying asset falls below the purchase price of the discount product. The discount certificate thus offers the advantage of generating a positive return even in sideways-trending markets or when prices are falling slightly. The initial discount is fully eroded by the maturity date, resulting in a profit.
Up to the maximum amount (cap), the discount certificate tracks the underlying asset to which it refers in a similar manner. Unlike a direct investment, however, the product generally has a limited term (with the exception of so-called “rolling discount certificates”).
What to keep in mind
A capital protection certificate can eliminate the risk of loss at maturity. However, investors also forgo higher potential returns because a portion of the invested capital is used to finance the protection. Capital protection applies only at maturity. During the term, the certificate’s value may fall below the issue price.
