A client is offered a one-year Rs 10 lakh note on Garudmachi Pharma at Rs 800 paying a 12% coupon, with principal returned in shares at Rs 800 if the stock finishes below that. What is the client really holding, and what does it get at 900, 760 and 560?

The client holds a one-year deposit plus a written put on 1250 Garudmachi shares struck at Rs 800, and the extra coupon is the put premium. At 900 the client gets Rs 11,20,000, up 12%; at 760 it gets 1250 shares plus the coupon, Rs 10,70,000, up 7%; at 560 it gets Rs 8,20,000, down 18%. The upside is capped at the coupon and the downside is the stock's, less the coupon.

Take the note apart the way you would take apart a combo meal to see what each item costs. The Rs 10 lakh earns a 12% coupon when a deposit pays about 7%, so Rs 70,000 of the Rs 1,20,000 is deposit interest and Rs 50,000 is something else. That something else is the premium on a put optionThe right to sell a share at a fixed price. The holder gains when the share falls below that price; the writer, here the client, bears the fall. the client has written: the issuer has the right to hand the client 1250 shares at Rs 800 each, and it will use that right exactly when the shares are worth less than Rs 800. Rs 50,000 on 1250 shares is about Rs 40 a share, which is the kind of premium a one-year at-the-money put on a mid-volatility stock commands; the exact split depends on the rate and volatility the issuer used.

Work the three cases in the same order each time: principal first, then add the coupon, then compare with Rs 10 lakh. At 900 the stock is above the strike, so the principal is Rs 10 lakh in cash and the total is Rs 11,20,000, a 12% return, while the stock itself made 12.5%. At 760 the stock is below the strike, so the client receives 1250 shares worth Rs 9,50,000, plus the coupon, Rs 10,70,000, up 7% while the stock fell 5%. At 560 the shares are worth Rs 7,00,000, plus the coupon, Rs 8,20,000, down 18% while the stock fell 30%. The coupon shifts every outcome up by 12 points; it does not change the shape.

Three plain sentences. The most the client can make is 12%, however well Garudmachi does. The client loses money if the stock finishes below Rs 704, which is 12% down, and below that it loses rupee for rupee with the stock. And the client is being paid about Rs 40 a share to take the fall in a single pharma stock, which is a question about Garudmachi's approval pipeline and volatility, not about interest rates. A client who would be happy owning 1250 Garudmachi shares at Rs 800 is the right buyer; a client who thinks of this as a deposit is not. State the limitation: the decomposition ignores the issuer's own credit, which is the other risk a note carries and the one a deposit at a bank does not, and it assumes the issuer priced the put fairly, which the client cannot check without a model.