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Factors to consider when trading CBBC

Ever since CIMB Investment Bank launched CBBC (Callable Bull and Bear Contract) in Bursa Malaysia recently, Malaysian investors who bought these instruments on the first days of trading must have learnt some painful lessons.

 

Such lessons include buying CBBC with credit card like finance charge(as in GAMUDA-JA) and not realizing the automatic call feature upon triggering Mandatory Call Event (like in BJCORP-JA).

 

There are some factors investors should look at before deciding to buy CBBC.  The first thing they should look at is the call price of the instrument.  Call price is very important because when the share price touches the call price, the CBBC dies.  It is therefore important to select a CBBC with a call price that is some distance away from the current share price.  Another point to note is that contrary to warrants, high volatility is no good for CBBC.  Warrants buyers benefit from higher volatility because it increases the probability of the warrants being in-the-money.  The pricing of warrants is such that its price should be higher when there is a surge in volatility.

 

The opposite is however true for CBBC.  When volatility of share price increases, the probability of share price touching the call price increases, thereby triggering a Mandatory Call Event which will mean the end of the CBBC.  Investors should hence avoid buying CBBC if they anticipate a spike in volatility of the underlying asset.

 

Collar Option Strategy by Major Shareholder caused Sharp Fall in Tencent

China internet giant Tencent Holdings Ltd (0700.HK) share price plunged from above HK$150 to HK$127.40 after its major shareholder Ma Huateng disclosed that he had reduced his stake in Tencent by 5 million shares at $102.70.

 

His disposal of Tencent shares at such a low price was actually committed last June when Tencent share price was between $83 and $96.  Ma had then entered into a contract which involved him implementing a collar option strategy.  A collar option strategy involves simultaneously buying lower strike price put option and selling higher strike price call option while holding the underlying share.  Both the call and put options are out-of-money.  This strategy limits the upside gain of the share but protect the holder from a sharp fall in share price.  The below diagram depicts the payoff of a collar option strategy.

 

How Many New ICULS will MUIIND-LA and MUIIND-LB holders get?

Malayan United Industries Berhad (MUIIND) has announced the entitlement date for the issuance of Class A3, 2 1/2-year Irredeemable Convertible Unsecured Loan Stocks (assumed to be named MUIIND-LC) of MUI as compensation in place of interest in cash from years 6 to 8 on all outstanding unconverted Class A1 ICULS (MUIIND-LA) as at 30 June 2010 and as compensation in place of interest in cash from years 6 to 8 on all Class A2 ICULS (MUIIND-LB) as at 30 June 2010.

 

Arbitrage Opportunities for Expiring Warrants

A number of expiring structured warrants listed on Bursa Malaysia are trading at a discount at the moment.  As some of these securities are listed in Hong Kong, there are many options for investors to sell short or implement strategies that would effectively generate a risk free return within the next month or so.

 

Amongst the expiring warrants that are trading at discounts on 31st May 2010 are CHMOBIL-CD, HKEX-CB and PETROCH-CA.

 

We use PETROCH-CA as an example on how we can achieve risk free profit over the next few weeks.

 

The price of PETROCH-CA on 31st May is RM0.065.  The call warrant has an exercise ratio of 8 and exercise price of HKD7.00.  The exchange rate of HKD/RM is RM0.4185.  PETROCH-CA will expire on 18th June 2010.  The underlying share Petro China closed at HKD8.53.

 

An investor buying into PETROCH-CA at RM0.065 is effectively paying HKD8.24 for one share of PetroChina.  This represents a discount of 3.5% of the closing price of HKD8.53.

 

To achieve arbitrage profit, an investor needs to sell PetroChina share short.  This can be achieved via a number of options. 

 

BJCORP-CB : Beware of Further Issuance When Implied Volatility is High

Berjaya Corporation share price rose last few days despite the global equity sell-off on.  This has also led to heavy trading of its structured warrants listed on Bursa Malaysia.  Due to the presence of issuers as market makers, investors need to pay special attention on how the game is being played.  This is especially when the implied volatility of one warrant is exceptionally high and there can be  risks of further issuance of the same warrants by issuers as illustrated below.

 

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