[nishi lalwaniParticipant]

Consider the following structured note offered by Baywhite Financial:
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Baywhite Financial LLC 80% Principal Protected Structured Note

</

Consider the following structured note offered by Baywhite Financial:
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Baywhite Financial LLC 80% Principal Protected Structured Note

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<div id=”CFA2459-s04-T-1-b” class=”cfa-exhibit”>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Description:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>The Baywhite Financial LLC 80% Principal Protected Structured Note (“the Note”) is linked to the performance of the S&P 500 Health Care Select Sector Index (SIXV).</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Issuer:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>Baywhite Financial LLC</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Start Date:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>[Today]</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Maturity Date:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>[Six months from Start Date]</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Issuance Price:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>102% of Face Value</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Face Value:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>Sold in a minimum denomination of USD1,000 and multiple units thereof</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Payment at Maturity:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>At maturity, you will receive a cash payment, for each USD1,000 principal amount note, of USD800 plus the Additional Amount, which may be zero.</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Partial Principal Protection Percentage:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>80% Principal Protection (20% Principal at Risk)</td>
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<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″ scope=”row”>Additional Amount:</td>
<td class=”cfa-rowsep-0 cfa-colsep-0 cellShade0″>At maturity, you will receive the greater of 100% of the returns on the S&P 500 Health Care Select Sector Index (SIXV) in excess of 5% above the current spot price of the SIXV or zero.</td>
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As a financial analyst for a wealth management advisory firm, you have been tasked with comparing the features of the Baywhite Financial LLC Structured Note with those of a similar exchange-traded, stand-alone derivative instrument alternative in order to make a recommendation to the firm’s clients.Which of the following statements best contrasts the credit risk of the Baywhite Financial LLC Structured Note with the counterparty credit risk of an investor entering into the embedded exchange-traded derivative on a stand-alone basis?

 

A.An investor in the Baywhite Structured Note assumes the credit risk of Baywhite Financial LLC for 20% of the note’s face value, as the remaining 80% is principal protected. An investor entering into the SIXV derivative on a stand-alone basis assumes the counterparty credit risk of a financial intermediary.

B.An investor in the Baywhite Structured Note assumes the credit risk of Baywhite Financial LLC for 80% of the note’s face value, as the remaining 20% is associated with the embedded derivative. An investor entering into the SIXV derivative on a stand-alone basis assumes the counterparty credit risk of a financial intermediary.

C.An investor in the Baywhite Structured Note assumes the credit risk of Baywhite Financial LLC for 100% of the note’s face value, while an investor entering into the SIXV derivative on a stand-alone basis assumes the counterparty credit risk of an exchange and its clearinghouse

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[Madhu Chandarasekaran, CFAKeymaster]

C. An investor in the Baywhite Structured Note assumes the credit risk of Baywhite Financial LLC for 100% of the note’s face value, while an investor entering into the SIXV derivative on a stand-alo

C. An investor in the Baywhite Structured Note assumes the credit risk of Baywhite Financial LLC for 100% of the note’s face value, while an investor entering into the SIXV derivative on a stand-alone basis assumes the counterparty credit risk of an exchange and its clearinghouse.

Here’s why:

Structured Note: Even if part of the structured note is “principal protected,” the entire payoff—principal and derivative-linked return—is contingent on the issuer (Baywhite) not defaulting. Thus, the investor is exposed to 100% credit risk of Baywhite.

Exchange-Traded Derivative (SIXV): If the embedded derivative is replicated through a stand-alone exchange-traded instrument (like a futures or listed option), the counterparty risk is absorbed by the exchange’s clearinghouse, which is significantly lower due to margining, daily settlement, and regulatory oversight.

This contrast is fundamental when advising clients on credit exposure and counterparty risk.

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• This reply was modified 1 week ago by Madhu Chandarasekaran, CFA.

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