Annex to the Securities Account Agreement Financial Instruments Glossary

Transcription

1 Annex to the Securities Account Agreement Financial Instruments Glossary 1 /29 Financial Instruments Glossary

2 CONTENTS page I EQUITY SECURITIES... 3 II DEBT SECURITIES... 6 III ORGANISMES DE PLACEMENT COLLECTIF (Mutual funds)... 7 A Classified by legal form... 8 B Classified by income disposition... 8 C Classified by investment policy Monetary OPCVM OPCVM investing in bonds and other debt securities OPCVM investing in shares Index OPCVM Diversified OPCVM Funds of funds Guaranteed capital OPCVM and formula funds Venture capital OPCVM Alternative Fund OPCVM IV FUTURES AND OPTIONS A Characteristics of derivative financial instruments B Forward contracts (Futures) C Options Call options Put options V OTHER FINANCIAL INSTRUMENTS A Convertible bonds B Warrants /29 Financial Instruments Glossary

3 I EQUITY SECURITIES A company share is a certificate of legal title to a fraction of the capital of the company that has issued it. Shares do not provide fixed revenue (unlike bonds, which remunerate what is a loan with periodic amounts of interest). The return on investment offered by a share is determined on the basis of dividends possibly paid out and fluctuating market price (if this is positive). Consequently, investments in shares must be seen as long-term investments. Main rights attaching to shares - Right to a dividend: the dividend may vary from one year to the next depending on the profits made by the company as well as its policy on dividend payments. Dividends are therefore never guaranteed. Although usually paid in cash, shareholders are sometimes offered the option of receiving payment in the form of new shares. - Subscription rights (priority entitlement to buy new shares): shareholders who do not wish to participate in a capital increase can sell their subscription rights on the stock market if the share is listed. Legal categories of share - Bearer shares are embodied in an entry in the accounts of an approved intermediary (a bank) and can be traded on stock markets. - Registered shares must be registered with the issuing company if they are not listed. However, a listed company may want to know who its shareholders are and issue shares that are registered in the names of the shareholders. Shareholders can however empower their bankers to manage them and thus receive dividend payments directly on their client accounts. - When it is formed, a company can decide to ask its shareholders to pay into capital only part of the value of the shares they hold (the shares are then said to be not fully paid ). When it has received the balance of the value (the nominal value plus, where applicable, a premium) the shares are said to be fully paid. - Voting and non-voting shares: voting shares entitle the shareholder to take part in General Meetings of shareholders, in ballots and in the administration of the company. Non-voting shares entitle the shareholder to a dividend that cannot be less than that granted to shares with voting rights. - Preferential shares may give the holder a priority right to a share of annual profits. If the company is wound up, these shares are redeemed before other stock. - Listed shares: only shares whose value has been entirely paid into the company are admissible for listing. The flotation of shares on a stock market is conditional upon meeting certain conditions laid down by the market authorities (a minimum quantity of shares placed on the market, regular publication of detailed information, and so on). 3 /29 Financial Instruments Glossary

4 ADVANTAGES Over a long period, the returns on share investments are higher than bond yields. The reason for this is essentially that there is a risk premium incorporated in the price paid by the investor. Unlike bonds, the return on shares is the result of added value accumulated over time and not simply from the remuneration/dividend paid out. DISADVANTAGES Investment in shares is subject to high risk since it depends to a great extent on the profitability of the company. The revenue generated (dividends) cannot be determined in advance (contrary to the interest paid out on a bond, which is a known quantity). A share s value will fluctuate, reflecting the development prospects of the company and general market trends. Liquidity: The liquidity of a share is a measure of the ease with which it can be bought and sold. Only shares listed on a stock exchange are liquid. Their liquidity is dependent on several criteria: - The market capitalization of the company: the greater the share of the company s capital held by the general public, the bigger the market for its shares will be and the greater their liquidity (the shares that make up stock market indices are generally more liquid). - Diversification of the shareholding structure: the more shareholders there are, the greater the liquidity of the shares. - The performance of the issuing company will also influence how liquid its shares are. 4 /29 Financial Instruments Glossary

5 THE RISKS ASSOCIATED WITH SHARES 1. Insolvency risk Shares are an investment subject to high risk: the company that has issued them is not bound to redeem them. If the company goes bankrupt, the shares may cease to have any value at all. 2. Liquidity risk Liquidity is ensured by the existence of a market (the stock exchange). It is particularly dependent on the volume of trading in the shares: the greater the market capitalization of the company, the bigger its market will be and therefore the greater the liquidity of its shares. 3. Exchange risk Movements in exchange rates may have a negative or a positive effect on the return on an investment in shares expressed in a foreign currency. Even if the listed share price is in euros, there is an indirect exchange risk where a part of the assets or revenue of the company is in foreign currencies. There are considered to be five main regions from the point of view of monetary risk: the euro zone, European countries outside Euroland (the United Kingdom, Switzerland, Sweden, etc.), the dollar zone, Japan, and the emerging economies (Asia other than Japan, Latin America and Central Europe). 4. Interest rate risk causing a fall in share price 5. Volatility risk causing a capital loss 6. Risk of absence of revenue Generally speaking, a rise in interest rates on markets will have a negative impact on share prices. This is very much dependent on the financial health and commercial energy of the company, as well as ongoing developments in its sector of activity and markets generally. So-called speculative shares present a higher risk of price volatility than shares in companies whose activities are stable. Dividends are a variable form of revenue. Companies may decide not to pay out dividends in certain years for various reasons. 7. Capital (or redemption) risk There is always a risk of capital loss (that is to say, a risk that the share will be sold at a price lower than the purchase price). This risk is a major one, especially in the short term. 8. Other risks Market risk (uncertainty as to interest rate movements, inflation, the general economic climate, political situations, not to mention unexpected events, including those related to the weather) can never be ruled out on equity markets. In the case of foreign markets there is a special risk since movements there may be generally less favourable than in the case of Euronext. 5 /29 Financial Instruments Glossary

6 II DEBT SECURITIES Bonds are the commonest debt securities and are usually issued over long periods of time. They are remunerated by payment of interest calculated at variable or fixed rates. Issuers may be public bodies in France or abroad, private enterprises in France or abroad, international organizations or credit institutions. When a bond is redeemed at maturity, the real value of the principal may have declined due to inflation. Such monetary erosion will increase along with inflation and the life of the bond. If the nominal interest rate is higher than the average rate of inflation over the bond s lifespan, this may offset monetary erosion. The most common types of bond: - Ordinary bonds: these have a fixed term and a fixed interest rate. Holders of ordinary bonds have no particular entitlements: in the event of the bankruptcy of the issuer, they are repaid after all the preferential creditors. - Preferential bonds: holders of preferential bonds are repaid first if the issuer fails. Repayment of the principal plus the interest is secured on certain of the debtor s assets. - Subordinated bonds: in the event of the issuer s bankruptcy, holders of subordinated bonds are repaid only after the other bondholders (i.e. the preferential and ordinary creditors). - Zero-coupon bonds: the interest is not paid out annually but capitalized over the period to maturity and they are generally issued under par. The issue price is significantly lower than the nominal value (and consequently the redemption amount): it will be equal to the nominal value discounted at the date of issue and the fixed interest rate that is to say that it takes account of the fact that payment of part of the interest is deferred. - Indexed bonds: bonds on which yield is tied to movements in an index (various types of index-linking can be provided for: inflation, a stock market index or a share price, a given exchange rate, the price of gold, and so on). - Variable-rate bonds: the coupon is not fixed but revised periodically (it may be linked to an index), - Equity warrant bonds: the attached warrant entitles the holder to buy a share or shares or another bond at a price set in advance. ADVANTAGES The interest is fixed in advance: it is usually higher than for other less risky investments (Treasury Bonds and savings bonds for example). DISADVANTAGES Monetary erosion: inflation reduces the real value of the principal when this is repaid at maturity. In principle, they are negotiable on the secondary market. 6 /29 Financial Instruments Glossary

7 THE RISKS ASSOCIATED WITH BONDS 1. Insolvency risk This is dependent on the quality of the issuer, which is assessed by the rating agencies. The better the rating, the lower the risk of failure. However, rating agencies are not infallible. 2. Liquidity risk This depends on the existence and operation of a secondary market in the bond concerned. The greater the volumes traded, the lower the liquidity risk. 3. Exchange risk Nil for bonds in euros. This risk does however exist for other currencies: exchange risk depends on the strength of the currency of the bond, which may increase or decline in relation to the euro. 4. Interest rate risk causing a fall in share price Yes: in the event of sale on the secondary market at a time when interest rates on the market are higher than the bond s nominal rate the investor will incur a capital loss. In fact, the price for the bond will fall to a level at which its yield (interest rate related to price) is equal to that available on new bond issues on the primary market. If the contrary occurs (a market rate lower than the nominal bond rate), the investor will make a capital gain. 5. Other risks Bonds may be accompanied by a call option enabling the issuer to redeem the loan ahead of time at a given price and on a given date. III ORGANISMES DE PLACEMENT COLLECTIF (Mutual funds) Organismes de Placement Collectif (OPC) is a generic term for entities, which may or may not have legal personality, which collect capital from the public and invest it on their collective behalf in: - a portfolio of investment securities: these are OPCVM, Organismes de Placement Collectif en Valeurs Mobilières (French forms: SICAV, FCP), which have become one of the savings instruments preferred by the French; - Real estate: Organismes de Placement Collectif Immobiliers (OPCI) or Société Civile de Placement Immobilier (SCPI ). Such funds are tools for dividing up risk. - Management of the assets of OPC is entrusted to specialists working together in a management firm approved by the French AMF, the Autorité des Marchés Financiers or Financial Markets Authority. These specialists manage the funds collected in accordance with an investment policy described in a prospectus. Investors have no right of oversight of the investment policy actually implemented. In order to ascertain whether a OPC meets their requirements, investors must refer to the issue prospectus, which will have been approved by the AMF. - The AMF verifies that OPC set up in French law are keeping to the investment rules. The prospectus must be updated annually, with information being added specifically on the performance achieved in the most recent complete year. A business report containing the fund s accounts results must also be published annually by the management firm. - The status and operation of OPC doing business in the French market are controlled by the French Code Monétaire et Financier [Code of Monetary and Financial Law], a notable feature of which is that it contains the French legislation corresponding to the transposition of the European OPCVM directive. Those OPCVM that meet European standards can be marketed in all EU Member States. For this reason, when granting approval the French AMF makes a distinction between OPCVM that meet the requirements of European regulations and those that meet French 7 /29 Financial Instruments Glossary

8 regulations alone. A CLASSIFIED BY LEGAL FORM On the basis of their legal form, a distinction can be made between OPC that do not possess legal personality (French mutual funds: FCPs or Fonds Communs de Placement) and OPCVM which do have legal personality (investment firms which are further subdivided into open-ended stock companies (French SICAV Société d investissement à capital variable), and those which have a fixed number of shares or capital, these being the closed-end type of investment fund. - An FCP does not have legal personality. An FCP is the undivided property of all holders of investment units. - A SICAV is a OPCVM with legal personality. A SICAV is an open form of company that has a particular feature in that it can increase or reduce its capital by issuing new shares or, conversely, by redeeming shares already in circulation. It has the legal form of a société anonyme. Each subscriber to shares becomes a shareholder and receives a number of shares in proportion to his contribution to capital. Each share is remunerated in proportion to the revenue generated by the OPCVM. It is possible, within the same SICAV, to set up distinct compartments in which assets with the same specific characteristics are grouped together. Each compartment is covered by a different prospectus setting out its particular investment policy. In most cases an investor can easily change from one compartment to another. The realizable value of a OPCVM corresponds to the market value of the net assets in its portfolio. This value is calculated periodically, daily in most cases, and published on the website of the AMF ( on the website of the management company and in the financial press. This publication is slightly delayed because the calculations required to determine portfolio values on a given day can be done only on the following day, once all the market prices for the financial instruments in the portfolio are known. Foreign investment firms of SICAV type issuing shares in countries within the European Economic Area (EEA) may also be offered for purchase in France on condition that they are covered by a European passport. B - CLASSIFIED BY INCOME DISPOSITION Two types of shares (in the case of firms of SICAV type) or units (mutual funds of FCP type) are possible: shares/units in OPCVM that redistribute their income and those in OPCVM that capitalize their income, with some OPCVM offering the investor a choice between the two types of share/unit. 1. Distribution funds pay out all or part of the income to the holders of investment units or shares. Such distribution is usually annual but some SICAVs pay out half-yearly or even quarterly. 2. In the case of capitalization funds, the income received by the OPCVM is automatically reinvested, thus increasing its realizable value. 8 /29 Financial Instruments Glossary

9 ADVANTAGES AND DISADVANTAGES COMMON TO ALL TYPES OF OPCVM ADVANTAGES Diversification: OPCVM enable investors to build diversified portfolios offering genuine spreading of risk. DISADVANTAGES Costs: OPCVM shares or units usually require payment of entry, management and exit fees that can vary widely between one group and another. Management by professionals: this is more profitable and more effective. Economies of scale: given the extent of the resources employed, cost savings become possible (on brokerage fees for example), thus helping improve the return on the investment. The multiplicity of OPCVM in existence and the different features of each enable the many and varied requirements of investors to be met. Access to specific markets that may otherwise be difficult or impossible to access for individual shareholders acting in isolation (Asian markets for example). Liquidity and transparency: the realizable value of an FCP or a SICAV is usually available on a daily basis. C - CLASSIFIED BY INVESTMENT POLICY 1. MONETARY OPCVM In return for limited expectation of gains, these offer limited risks of loss. The major part of their investments is in liquid assets and short-term securities (maturing in less than a year), such as time deposits, treasury certificates, bonds maturing in the near future, commercial paper and certificates of deposit. Zero-coupon issues nearing their maturity date are also likely to form part of their portfolio. Some monetary funds invest in euros and others in foreign currencies. Still others have opted for a basket of currencies: for example, strong currencies or currencies offering high rates of interest. Monetary OPCVM may be of income capitalization or distribution types. 9 /29 Financial Instruments Glossary

10 ADVANTAGES Due to the scale of the funds employed, private investors can obtain more remunerative rates (those of the wholesale market). Indirect acquisition of instruments to which private investors do not have direct access (treasury certificates or commercial paper). DISADVANTAGES Subscription/redemption and management fees are often low but they do make investment in a monetary OPCVM of little benefit over a short period. Returns are usually fairly limited. Liquidity is high compared with other investment tools such as time deposits. THE RISKS ASSOCIATED WITH MONETARY OPCVM 1. Insolvency risk Negligible: the risk that a monetary OPCVM will fail can be practically ruled out. The credit risk attaching to the issuer of the underlying assets is very limited. 2. Liquidity risk A monetary OPCVM redeems its shares/unit at their realizable value. Given the specific nature of its short-term investments, it usually offers high liquidity. 3. Exchange rate risk Nil for monetary OPCVM investing solely in euros. Low to high for those investing in other currencies, depending on movements in the currencies involved against the euro. 4. Interest rate risk Low. In the event of very sharp and major rate rises the realizable value may show a drastic drop for a time. 5. Volatility risk Non-existent: the risk of making a loss when applying for redemption of one s shares is nil because a OPCVM invests solely in short-term, fixedincome instruments. 6. Risk of absence of revenue Shares/units in capitalization OPCVM do not generate dividends. Dividends paid out by distribution OPCVM will vary in line with the revenue generated by the assets held. 2. OPCVM INVESTING IN BONDS AND OTHER DEBT SECURITIES Ongoing developments in such OPCVM are influenced by the rates of interest applied on financial markets. Their level of risk is assessed by reference to the notion of sensitivity. The greater its sensitivity, the more a OPCVM will be sensitive to rate risk. Low sensitivity will lead to limited variation in the realizable value of the OPCVM. This type of OPCVM is also subject to credit risk. Such OPCVM invest in bonds, representing borrowing by public bodies or private companies. A distinction is made between funds invested in medium-term bonds (with an average life of between 18 and 30 months for the bonds in the portfolio) and long-term bonds (more than 30 months). The investment policy described in the prospectus may lay down constraints applicable to currencies (one or more currencies), types of issuer ( grade A only for example) or time to maturity (short, medium or long) for the bonds in which the fund invests. This category of OPCVM is subject to the same advantages and disadvantages as all types of OPCVM. 10 /29 Financial Instruments Glossary

11 THE RISKS ASSOCIATED WITH OPCVM INVESTING IN BONDS AND OTHER DEBT SECURITIES 1. Insolvency risk Negligible. The risk that a bond OPCVM will fail can be practically ruled out. The diversity of its portfolio securities reduces the credit risk very substantially. However, this risk is greater for bond funds specializing in issues from private companies and local authorities, since they present a higher level of risk. 2. Liquidity risk Low. Liquidity is assured by the management firm. 3. Exchange risk This depends on the investment policy (as set out in the prospectus). It is non-existent for funds investing exclusively in euro bonds. It is high for funds with exposure in volatile currencies. 4. Interest rate risk Equal to rate risk on an ordinary bond with a remaining period to maturity equal to the average period to maturity of the portfolio of bonds held by the OPCVM. Rate risk exists throughout the life of the investment. 5. Price volatility risk The more distant the maturity date (i.e. the longer the period left to run) and the lower the coupon, the higher this risk is. 6. Risk of absence of revenue Shares/units in capitalization funds are not remunerated. 3. OPCVM INVESTING IN SHARES These OPCVM have an exposure of at least 60% in the stock market at all times. This means that the realizable value (the price) for the OPCVM will to a large extent follow the market prices of the shares it holds in its portfolio, both upwards and downwards. There are generalist share OPCVM - that is to say, OPCVM that invest in all sectors of the economy and anywhere on the planet, but there are also share OPCVM specializing: - either in certain geographical areas: French, European, Asian shares for example, - or in defined economic sectors: high-growth or high-tech stock: for example, in telecommunications, information technology, multimedia, healthcare, biotechnology, or more traditional businesses, or defensive stock categories such as finance, retail distribution, consumer products, luxury products, or local services such as electricity, water or waste management. Fund management may be: - index-based, following the changes in a given index (cf. index OPCVM), - or active: in this case the manager of the fund will seek, by arriving at just the right selection of stocks, to do better than the stock exchange index or the market generally. 11 /29 Financial Instruments Glossary

12 ADVANTAGES Compared with direct investment in shares, investments in share OPCVM have numerous advantages, of which the main ones are: Good risk diversification. Numerous possibilities for limiting risk and protecting gains made ( ratchet formula funds for example). DISADVANTAGES The regional and/or geographical breakdown of investments made by a share OPCVM using active management may be fundamentally modified to match what the fund manager expects from market developments, possibly deviating from the wishes of the investor. Share movements are volatile, in the short term at least. Costs: entry and exit fees linked to the acquisition and resale of shares; management fees. The capacity to invest in markets and sectors difficult to access for private individuals and on which little information is available (emerging economies for example. Low upfront investment required. Good liquidity: the realizable value of a OPCVM is calculated and published every day. THE RISKS ASSOCIATED WITH SHARE OPCVM 1. Insolvency risk Negligible. The risk that a share OPCVM will fail can be ruled out. The credit risk attaching to the underlying assets is very limited. 2. Liquidity risk Limited. OPCVM liquidity is assured by the management firm. The risk of a freeze on redemptions does exist, but experience shows that this is usually of short duration only. 3. Exchange risk This depends on the underlying assets. It is nil for OPCVM investing exclusively in Euro zone shares. It is high for OPCVM investing in the stock markets of countries with volatile currencies. 4. Interest rate risk Generally speaking, a rise in rates will have a negative impact on share prices. 5. Price volatility risk Determined by the general investment climate on the stock market on which the OPCVM invests. Volatility in the realizable value of a OPCVM is smaller than that for stock held directly, given that the risk is spread over all the shares in portfolio. 6. Risk of absence of revenue A capitalization OPCVM does not pay out dividends. 7. Other risks In the case of mutual funds of SICAV type, investment policy is not always particularly transparent. 12 /29 Financial Instruments Glossary

13 4. INDEX OPCVM An index OPCVM invests exclusively in shares making up a stock exchange index. Movements in its value will thus tend to mirror the average performance of the relevant market. An index is a measurement instrument reflecting the general movement in the shares listed on the exchange. It relates either to all the listed shares or to some of them only. If it is to be profitable, such an investment will therefore need to be made with a fairly long period in mind since in the short term movements on the relevant stock market (not only upwards but also downwards) may be quite capricious, preventing the initial investment from being recovered, especially also in view of the costs potentially arising from fund entry, management and exit. Listed index OPCVM (ETF: Exchange Traded Funds or trackers ) aim to replicate variations in a predetermined index. They may be bought or sold on the stock exchange throughout the trading day just like conventional shares. In Paris, it is Euronext that organizes this listing in its Next Track segment. Their trading value is based on a price determined by comparison of buy and sell orders, and is not permitted to deviate by more than 1.5% from the indicative (or instantaneous) realizable value. The fund s realizable value is calculated once daily. As for the instantaneous realizable value, this is published daily and continuously (Euronext Paris Next track website at at trackers ), with updating every 15 seconds taking account of intraday movements in the underlying index. ADVANTAGES Diversification of risk: this enables an investor not in possession of sufficient knowledge or time to manage a portfolio himself to obtain better results than he would buying the shares directly on the stock market, especially in the case of investors wishing to trade on foreign stock markets (index OPCVM exist that track movements on the world s principal stock exchanges). High yield: statistical studies tend to show that, on average, a portfolio that faithfully reflects the makeup of a stock market will offer higher returns than a portfolio based on shares from that same market but selected using other criteria. Given this, of all share OPCVM, the index OPCVM is the one that offers the best outcomes over the long term. DISADVANTAGES Investment in an index OPCVM is still subject to high risk even if that risk is lower than for the listed shares alone. Investment in an index OPCVM tracking certain foreign stock markets may involve fairly high entry, management and exit fees. Reasonable management fees: since the monitoring of portfolios held by index OPCVM is a fairly simple matter, the management fees are lower than for most other share OPCVM. 13 /29 Financial Instruments Glossary

14 THE RISKS ASSOCIATED WITH INDEX OPCVM 1. Insolvency risk Nil in principle, given the very limited likelihood of an index OPCVM going bankrupt. 2. Liquidity risk Generally low given the intrinsic nature of an index OPCVM. 3. Exchange risk Nil for index OPCVM shares/units expressed in euros. The exchange risk may range from low to high for OPCVM expressed (or invested) in other currencies. 4. Interest rate risk Any increase in rates will usually have a negative impact on share prices and indirectly therefore on index OPCVM values. 5. Price volatility risk This depends essentially on general movements in the market (in France or abroad) in which the OPCVM invests. Volatility will be less marked than for individual listed shares. 6. Risk of absence of revenue An index OPCVM is a capitalized-income OPCVM and does not pay out remuneration. 5. DIVERSIFIED OPCVM This category contains those OPCVM that fall into no other and which are under discretionary management without predetermined income disposition rules and investing in French and/or foreign markets, or which indicate the existence of potential exchange risk for French residents. Depending on the various risk profiles, there are defensive diversified OPCVM that prefer to invest in bonds, neutral diversified OPCVM that aim for a balanced spread between shares and bonds and dynamic diversified OPCVM that invest mainly in shares. ADVANTAGES This category of OPCVM enables a balanced and diversified portfolio to be built to match the desired risk profile. Diversified OPCVM are often used in connection with savings plans for the building of retirement capital. DISADVANTAGES Costs: entry and exit fees; management fees. Diversified OPCVM can be used to form the core of a portfolio. 14 /29 Financial Instruments Glossary

15 THE RISKS ASSOCIATED WITH DIVERSIFIED OPCVM 1. Insolvency risk Negligible. The risk that a monetary OPCVM will fail can be practically ruled out. The debtor risk attaching to the underlying assets is very limited. 2. Liquidity risk The underlying instruments can always be sold on market terms, with accompanying payment of exit fees. 3. Exchange risk Dependent on portfolio composition. 4. Interest rate risk for market price Both bonds and shares in the portfolio are sensitive to rate variations. 5. Revenue volatility risk Higher for dynamic diversified OPCVM than for diversified OPCVM of defensive type. 6. Risk of absence of revenue Shares or units in capitalized-income funds do not generate dividends. 6. FUNDS OF FUNDS Funds of funds are OPCVM that are themselves investors in other investment funds. These are OPCVM under active management: the manager of a fund of funds carries out a rigorous selection of the best fund managers on the basis of a certain number of strict criteria and brings these funds together to build a single basket. The funds selected are regularly re-evaluated. ADVANTAGES Investment in a fund of funds can be considered as instrumental in diversifying overall investment (this diversification may be both geographical and sectoral). By investing in a fund which itself invests in other funds the investor gains access to thousands of share issues without having to concern himself with the quality or individual movements in each. DISADVANTAGES Costs: entry and exit fees; management fees. Reduced risk: the sectoral and regional spread reduces risk. 7. GUARANTEED-CAPITAL AND FORMULA FUNDS - Formula OPCVM aim to offer conditional performance defined as a function of movements in stock exchange indices, share prices, and so on. To accomplish this, the OPCVM undertakes to achieve by a given date a set amount calculated by simply applying a predetermined calculation formula based on indicators for financial markets or financial instruments. In practice, the yield on this investment is based on a more or less complex mathematical formula: it is not therefore the quality of the management during the life of the OPCVM that must determine the investor s decision to choose it but rather the way in which it anticipates the market parameters covered by the proposed formula. 15 /29 Financial Instruments Glossary

16 Its prospectus will provide objective and comparable information enabling the proposed product to be understood, along with the profits that may be expected and the associated risks (examples complete with figures, in addition to favourable, unfavourable and median scenarios, historical simulations, and so on). ADVANTAGES DISADVANTAGES Protection of capital at maturity: the investor can take advantage of a rise in the stock market with no risk of capital loss. The investor participates only in rises of the level of the reference index and does not benefit from dividend returns. In the case of OPCVM linked to an index on a foreign stock exchange, but expressed in euros, exchange risk is nil. Participation in rises in the index of reference is not always total; maximum return on the investment may be capped. The realizable value of the OPCVM is calculated on market terms. Protection of the capital is valid only on the date of maturity and during the intervening period the realizable value may not always reflect changes in the index of reference. The investor must usually retain the investment in the OPCVM until the liquidation date, and if he wishes to withdraw prior to this, he will not benefit from the capital protection or guarantee, as well as being exposed to exit fees higher than for a conventional fund. THE RISKS ASSOCIATED WITH FORMULA FUNDS 1. Insolvency risk Negligible. The risk that a OPCVM will fail can be practically ruled out. The credit risk associated with the underlying assets is very limited. 2. Liquidity risk These assets can always be sold on market terms, with accompanying payment of exit fees. 3. Exchange risk Dependent on the currency in which the fund offers its capital protection: nil if the fund is invested solely in euros, but high if invested in volatile currencies without hedging for exchange risk and if the capital protection is not expressed in euros. 4. Interest rate risk for market price 5. Revenue volatility risk 6. Risk of absence of revenue Generally speaking, a rise in rates will have a negative impact on the prices of these instruments. The capital protection is valid only at liquidation. This is determined by general movements in the stock market in which the fund invests. Shares/units in capitalized-income funds do not generate dividend payments. 8. VENTURE CAPITAL OPCVM These are special collective management products intended for experienced investors because they present a high-risk profile related to the nature of the assets in which they are invested (equity securities in unlisted companies). Nevertheless, 16 /29 Financial Instruments Glossary

17 they do present tax advantages (part of the investment will be deductible for income tax on condition that the shares/units remain in the portfolio for at least 5 years). These are products with very low liquidity: the period of retention is usually longer (8 to 10 years), and the investor must retain them until the fund s liquidation date, unless they are sold on by private contract to another investor. A distinction is made between the following: - FCPR (Fonds Commun de Placement à Risque Venture capital investment fund), of which two main categories are familiar to retail clients: the FCPI and the FIP. - FCPI (Fonds Commun de Placement dans l Innovation Mutual fund for investment in innovative enterprises). The AMF financial authority calls the attention of investors to the specific risks associated with FCPIs: This type of fund invests at least 60% of the sums collected in innovative companies (of which at least 6% will be invested in innovative start-ups) with less than 2,000 employees and a majority of whose equity is not held by a legal entity or entities. The other 40% may possibly be invested in financial instruments authorized by the regulations, for example in shares or investment funds (a point defined in the FCPI bylaws and prospectus). The fund s performance will be dependent on the success of the projects of the companies concerned. Since those projects are innovative and high-risk, you must be aware that your investment is subject to high levels of hazard. In return for benefiting from the possibilities for profit associated with the innovations and from the tax advantages, you need to consider the risk that you may lose money. Your money may be partly invested in companies that are not listed on any stock exchange. The realizable value of your investment units will be determined by the management company applying the methods set out in the fund bylaws, subject to the oversight of the fund s statutory auditors. Calculations of realizable value are problematic. In order to be eligible for tax deduction, the aforementioned minimum levels of 6% and 60% must be met within two financial years and you must retain your investment units for at least five years. However, the optimum duration of the investment is independent of this tax-related constraint due to the fact that the fund will have invested in enterprises whose lead-time to maturity may be longer. Redemption of your units by the fund may depend on its capacity to sell its assets rapidly; for this reason it may not be possible immediately or may be transacted at a price lower than the last known figure for realizable value. In the event of the sale of your units to another investor in the fund, the selling price may also be lower than the last known realizable value. - FIP (Fonds d Investissement de Proximité Mutual fund for investment in local enterprise) The AMF financial authority calls the attention of investors to the specific risks associated with FIPs: When investing in a FIP you should take the following factors and risk into account: This type of fund invests at least 60% of the sums collected in regionally-based enterprises, of which at least 10% will go to new firms (less than five years old). The other 40% may possibly be invested in financial instruments authorized by the regulations, for example in shares or investment funds (a point defined in the FIP bylaws and prospectus). In order to be eligible for the tax benefit, the aforementioned minimum levels of 10% and 60% must be met within two financial years and you must retain your investment units for at least five years. However, the optimum duration of the investment is independent of this tax-related constraint due to the fact that the fund will have invested in regional enterprises, many small in size, whose lead-time to maturity will usually be longer than this. Your money will therefore be partly invested in companies that are not listed on any stock exchange. The realizable value of your investment units will be determined by the management company applying the methods set out in the fund bylaws, subject to the oversight of the fund s depository and statutory auditors. Calculation of that value is problematic. Redemption of your units by the fund may depend on its capacity to sell its assets rapidly; for this reason it may not be possible immediately or may be transacted at a price lower than the last known figure for realizable value. In the event of the sale of your units to another investor in the fund, the selling price may also be lower than the last known 17 /29 Financial Instruments Glossary

18 realizable value. 9. ALTERNATIVE FUND OPCVM This type of OPCVM invests more than 10% in other OPCVM (in France or abroad) applying so-called alternative strategies (the terms used may also be alternative multi-management or indirect alternative asset management ). Alternative management is often defined as management decorrelated from market indices. Such funds are suitable only for experienced investors. Their prospectuses must contain the following mandatory warning: The X fund is a OPCVM investing in alternative funds. It is not subject to the same rules as a general investor OPCVM and may therefore be subject to higher risk. Only individuals meeting the criteria under the heading eligible investors may purchase [shares/units] in X. IV FUTURES AND OPTIONS A CHARACTERISTICS OF DERIVATIVE FINANCIAL INSTRUMENTS Derivative financial instruments (or products) were initially developed as hedges against risks arising from exchange rates, interest rates and, essentially, volatility. They are called derivatives because they derive their value from the underlying financial instruments they are designed to cover. A derivative financial instrument entitles or obligates its holder to buy or to sell an underlying instrument (for example, a share, a currency, a market index) at a price fixed in advance and over a defined period. A derivative product must not be confused with an investment in the underlying instrument. Derivatives have a limited lifespan. Once the period of exercise has expired they lose all value. The main categories of derivative are options, warrants and futures. This list does not include derivatives available only to professionals, such as currency and interest rate swaps. Gearing Derivatives make it possible to generate profit that is a great deal higher than the initial sum invested. This is what is known as gearing. For example, to invest in options, all that needs to be paid is the premium. And despite this a very generous profit can be made. There is however another side to this coin: if the price does not move as expected during the life of the instrument, the entire amount initially invested can be lost. Gearing is therefore a double-edged sword. It must never be forgotten that the hope of substantial gains goes hand in hand with the existence of substantial risks. Derivatives are high-risk investments The outcome of the investment will be extremely variable and recovery of the sum initially invested far from certain. Derivatives must therefore be no more than a small part of the whole portfolio. 18 /29 Financial Instruments Glossary

19 Specialist financial markets offer standardized contracts and promote liquidity through market animation to enable all those involved to find counterparties in every case for the buying or selling of such contracts. B FIRM FINANCIAL FUTURES CONTRACTS (FUTURES) Futures are firm forward contracts under which two parties undertake to buy or to sell a given quantity of an underlying instrument, specifically currencies, bonds, market indices, at a fixed price and on a defined date in the future. Unlike options, futures are contracts that obligate both parties: the buyer of the future agrees at the final settlement date of the contract to accept delivery of the underlying against payment to its seller of a sum known as the futures price. The seller of the future on the other hand agrees to deliver the underlying at the delivery date in exchange for the determined price. The specifications intrinsic to futures contracts flow directly from the two concerns of any futures exchange, these being the security and the liquidity of its market. Each futures exchange defines its own operating structures and contract characteristics in order to meet the requirements of these two goals. - Where security is concerned, a margin call system is imposed on buyers and sellers as a guarantee against possible losses on contracts bought and sold as a result of fluctuations in market prices. For all transactions (buy or sell), an initial margin deposit, a percentage of the value of the contract bought or sold, must be paid into a margin account opened for the purpose. At the end of each trading day, the exchange will recalculate the values for contracts, which leads to a margin account entry: the debiting of a margin call for counterparties in loss, or a credited amount for counterparties registering a gain. The futures exchange thus determines day by day the outcome for the counterparties, profit or loss, avoiding any risk for both its clients and itself of default on a major payment. - The negotiability of futures is enhanced by the existence of fixed parameters: contract size, term and settlement procedure. In Europe, the biggest futures exchanges are currently the London International Financial Futures Exchange (LIFFE) and EURONEXT. ADVANTAGES Futures are also tools for the protection of portfolio value. The purchase and sale of futures can be used by any investor seeking to take full advantage of his expectations of rises or falls in futures prices. Futures are therefore also an instrument for speculation because a relatively modest investment (the amount of the initial margin and daily margin differences) can enable a very strong position can to be built up (due to gearing). DISADVANTAGES Like options, futures are the preserve of very experienced investors. They are a sophisticated financial management tool. Gearing also means that trading in futures can lead to major losses for investors involved in speculation where their forecasts are proved wrong. The purpose of the initial margin system is to limit such losses. In the case of futures contracts for the purchase of an instrument, any loss will be limited to the amount of the purchase (it is not possible to lose more than the value of the instrument in the event that this falls to zero). Conversely, in the case of futures contracts involving the short sale of instruments (i.e. where they are not actually held in the portfolio), there is, theoretically, no limit to the size of the potential loss: if the price of the instrument sold short rises drastically, the 19 /29 Financial Instruments Glossary

20 loss can be very large since in order to meet his commitment the seller will have to purchase at a high price the instrument he has undertaken to sell. 20 /29 Financial Instruments Glossary

21 THE RISKS ASSOCIATED WITH FUTURES 1. Counterparty risk The risk that the counterparty may not meet its commitments is limited to futures traded on an exchange without an organized settlement system. 2. Liquidity risk Futures are highly negotiable on organized exchanges. 3. Exchange risk Nil for contracts in euros. Exchange risk can be high in the case of volatile currencies. 4. Price volatility risk Dependent on the volatility of the underlying assets. 5. Risk of absence of revenue 6. Capital (or redemption) risk Futures do not confer entitlement to remuneration. There is no capital to be repaid. 7. Other risks Losses can in theory be unlimited for speculators who are mistaken in their forecasts. C OPTIONS An option is a financial instrument that can be used for a variety of purposes, but notably to protect a portfolio against a risk, to obtain extra returns on investment or to speculate on forthcoming upward or downward movements in a wide range of assets such as equities, interest rates, exchange rates and commodities (oil, wheat, metals, gold, etc.). An option is a contract between a buyer and a seller that entitles the buyer of the option to obtain a defined quantity of any underlying asset at a price set in advance (the exercise or strike price) at an agreed expiration date (so-called European options) or over an agreed period (the American style of option). An option contract confers a right upon its buyer and imposes an obligation on its seller: if the buyer of the option declares the intention of proceeding with a transaction, the seller will be under an obligation to comply and to sell. In exchange for this commitment, the seller receives a premium. Call options (expectation of an increase in the market price for the underlying asset) - These contracts give their buyer a right to exercise an option to buy over a defined period or at a given date a certain quantity of an asset (contract size). - The seller of the option is under an obligation to deliver the agreed quantity of the underlying asset at the strike price if the buyer of the option decides to exercise his right. If the market price for the underlying instrument rises, the seller runs an unlimited risk if they are not actually held in the portfolio. - The buyer of a call option is hoping that the price for the underlying assets (shares for example) will rise. Put options (expectation of an decrease in the market price for the underlying asset) - A put option gives its buyer the right to exercise an option to sell a certain quantity of an underlying asset at an agreed price. - The seller of the option is under an obligation to buy a certain quantity of that asset at the agreed price. If its market price falls toward zero, his loss may rise to equal the price he has undertaken to pay. - The buyer of a put option is hoping that the price for the underlying assets (shares for example) will fall. At the expiration date the buyer may exercise his right but is not obliged to do so. The obligation of the seller ceases to exist 21 /29 Financial Instruments Glossary

22 if the buyer does not exercise his right. The premium received by the seller is the latter s remuneration for the commitment he has given, and therefore compensates the risk he has agreed to incur. Given the risks involved, trading in this type of instrument and market is conditional upon the agreement of the Bank providing the order reception and transmission service, and upon the prior signing of a contractual agreement to which the rules for the specific market where the trading is undertaken will be appended. ADVANTAGES Options are effective tools for protecting the value of certain components of a large portfolio against a fall in market prices for financial assets (this is particularly true of put options). They enable the management of a share portfolio to be made more dynamic. They are also used for speculation in order to take advantage of short-term fluctuations in the price of a financial asset at the cost of a limited investment (this is especially true of call options). Compared with the small upfront investment, vast profits are possible. As in the case of warrants, options can multiply profit due to high levels of gearing. DISADVANTAGES Options are suitable only for experienced investors well aware of the ground rules and who closely follow trends on the stock market. Intelligent management requires intensive technical monitoring and the acceptance of a high level of risk. If the price fluctuations run counter to what the investor expected, options, due to their gearing, can multiply the loss. In order to restrict losses and permit satisfactory operation of an organized market, the issuers of options are required to pay an initial margin (guarantee) to ensure that they meet their commitments. THE RISKS ASSOCIATED WITH OPTIONS 1. Issuer risk It is necessary to be sure that the issuer is solvent. If the issuer is a regulated organization (an insurance company, credit institution, etc.), the risk will be relatively limited, but never non-existent. 2. Liquidity risk Options can be traded on organized secondary markets (cf. MONEP for Euronext). Liquidity is however relative: there is no guarantee that a good price can be obtained on resale. 3. Exchange risk Nil for options expressed in euros. Exchange risk can be high for options expressed in other currencies, especially if those currencies are volatile. 4. Interest rate risk Movements in interest rates have an impact on bond rates and indirectly on option prices. 5. Price volatility risk Price volatility is very great, reflecting movements and expectations with regard to the underlying assets. 6. Risk of absence of revenue 6. Capital or redemption risk Options do not generate revenue but only potential capital gains, depending on the market price for the underlying assets. There is no redemption or repayment. The outcome of the investment is extremely variable and recovery of the sum invested far from certain. After its expiration date, an option ceases to have value at all. 7. Other risks If the price for the underlying asset moves unfavourably the option can lose all its value (for the buyer of the option the loss will be limited to the 22 /29 Financial Instruments Glossary