|Constructing a leverage long product
In the case of a long product on a specific share, the investor essentially has a leveraged position in the share with an automatic stop-loss. To create or hedge this product the issuing bank will typically borrow cash from the money markets and use this to buy the required amount of shares. The borrowing is then rolled over, often on a daily basis, until the position needs to be unwound when either the product knocks out, is sold back or matures. These shares will provide dividend income to the bank, partly covering for the payment of interest on the amount borrowed.
If the price of the shares rises and the investor wants to unwind his or her position, the bank will then sell these shares back to the market at a higher price than it bought them for originally, and return the amount borrowed to the money market. This results in a profit for the investor.
If the price of the shares falls and either the investor wants to unwind his position or the stop-loss feature is triggered, the bank will again sell the shares back to the market but at a lower price than it bought them for originally, and return the amount borrowed to the money market. This results in a loss for the investor.