- 1). Review the reverse convertible terms. These are usually specified in the offering prospectus. For example, consider the three-month Alcoa reverse convertible notes issued by RBC Capital Markets. The principal or face value of the notes is $1,000, the coupon rate is 14.75 percent and the barrier price is 80 percent of the initial share price, as of 2011.
- 2). Compute the monthly interest payment. It equals the coupon multiplied by the principal. In the Alcoa example, the monthly interest payments are $147.50 per note, or 1,000 x 0.1475.
- 3). Find the proceeds if the share price at maturity is less than the initial share price. Depending on the terms of the reverse convertible notes, you could receive shares instead of the principal. In the Alcoa example, the investor receives shares if both of the following two conditions are satisfied: one, the barrier price is breached -- Alcoa's share price closes below the barrier price -- on any day during the three-month term of the notes; and two, the share price at maturity is less than the initial share price. Therefore, if the initial Alcoa share price is $20, the share price at maturity is $19 and the shares have closed at least once below the barrier price of $16, which equates to 0.80 x $20, then the investor will receive the final interest payment plus 50 Alcoa shares, or 1,000 / 20 at maturity.
- 4). Get the proceeds if the share price at maturity is equal to or greater than the initial share price. In this case, the investor receives the final interest payment plus the principal, whether or not an existing barrier price level has been breached. To conclude the example, if the share price at maturity is $20.50, the investor will receive the final interest payment plus the principal, of $1,147.50, or 1,000 + 147.50.
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