What gives Turbos their va-va-voom?

Listed contracts for difference (CFDs), such as SG’s “Turbos” range, are geared trading instruments. Their prices, which are quoted on the London Stock Exchange, magnify the movements of the underlying indices, shares or commodities that they are linked to. SG gives this example of a Turbo linked to the share price of GlaxoSmithKline. It is a “long” contract with an expiry date of January 2009 and a strike price of 925p, meaning that it gives the right to buy Glaxo shares at 925p. It has “parity” of 1, which means one Turbo is required to gain exposure to one unit of underlying, ie one Glaxo share.

So this Turbo has intrinsic value to the holder when Glaxo’s shares trade in the market above the strike price of 925p. In this example, Glaxo’s shares are currently trading at 1125p. Consequently, the price of the Turbo reflects this intrinsic value, plus some extra “time value”, as there is still time for Glaxo’s share price to rise higher and make the Turbo more valuable.

A trader who believes Glaxo’s shares will rise before January could therefore buy this Turbo to take a leveraged long position.

If Glaxo’s share price
then rises by 75p, the price of the Turbo will also increase by 75p. But this gives a much greater return in percentage terms, as it only cost 209.3p to buy the Turbo – a fraction of the cost of the underlying Glaxo share.

If Glaxo’s share price instead fell below 1,000p, the Knockout barrier would be hit, and the Turbo would expire worthless. But this means the loss would only be the cost of the Turbo – 209.3p – regardless of how much lower Glaxo’s share price actually fell.