Click to edit Master title style
Click to edit Master subtitle styleNovember 2006
Key Concepts, Features And Myths Of Structured Warrants
Click to edit Master title style
Click to edit Master subtitle styleCONTENTS
Contents Section 1 Executive Summary 1
Section 2 Structured Warrants Programme in Malaysia 2
Section 3 Key Features of Call Warrants 3 - 5
Section 4 The Six Myths of Call Warrants 6 - 9
Section 5 Behavior of Call Warrants 10 - 11
Section 6 Why Buy Call Warrants? 12 - 13
Section 7 How to Choose a Call Warrant? 14
Important Notice
Contact Details
Click to edit Master title style
Click to edit Master subtitle styleSection 1
EXECUTIVE SUMMARY
Executive SummaryTo be Malaysia’s first warrants supermarket that offers a wide range of listed Call Warrants featuring major sectors, themes and single stock.
To provide investors with alternative trading instruments to enhance returns with limited downside risks.
To develop and broaden the product range via other equity derivative such as Over-the-Counter (“OTC”) options, Bull Equity-Linked Investment (“Bull ELI”) and High Yield Equity-Linked Investment (“HY ELI”).
To offer call warrants on foreign underlying companies and indices.
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Click to edit Master title style
Click to edit Master subtitle styleSection 2
STRUCTURED WARRANTS PROGRAMME IN MALAYSIA
Structured Warrants Programme in Malaysia
To kick start the structured warrants programme, CIMB Investment Bank Berhad (formerly known as Commerce International Merchant Bankers Berhad) (“CIMB”) launched the base prospectus in April 2006.
The base prospectus is valid for one year and each structured warrant offering will be accompanied by a term sheet.
To date, CIMB has successfully launched 19 series of cash and physically-settled call warrants.
On 31 October 2006, the SC issued a revised and enhanced Structured Warrants Guideline which allows the issuance of structural warrant products on foreign underlying listed shares and indices.
CIMB aims to take full advantage of the enhanced guidelines to further develop the structured warrants market and build greater market liquidity.
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Section 3
KEY FEATURES OF CALL WARRANTS
Key Features of Call Warrants Issued in Malaysia
KEY FEATURES DESCRIPTION
Call Warrants
• Cash settlement: Investors will receive payoff amount of maximum (0, Closing Price –Exercise Price) x 1 / Exercise Ratio
• Physical settlement: Investors will receive shares upon payment of the Exercise Price
On Expiration • Previous day closing price if warrant holders exercise before 9.00 am
• Volume weighted average market price (“VWAMP”) for 5 market days prior to Expiry Date
Exercise Price • Set as a percentage of one day VWAMP
Exercise Styles• American: Right to exercise at any time before or on Expiry Date
• European: Right to exercise on Expiry Date
On Expiration• Automatic exercise for in-the-money cash-settled call warrants
• Automatic termination for in-the-money physical-settled call warrants
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Key Features of Call Warrants Issued in Malaysia (Cont’d)
KEY FEATURES DESCRIPTION
Exercise Ratio
• One call warrant for one share
• Ten call warrants for one share
• Such other ratio as approved by the SC
Premium • [(Call warrant price x Exercise Ratio) + Exercise Price – Underlying Security Price)]Underlying Security Price
Delta • Change in the call warrant price x Exercise RatioChange in the Underlying Security Price
Guarantor • CIMB Bank Berhad (formerly known as Bumiputra-Commerce Bank Berhad (“CIMB Bank”) will guarantee CIMB’s obligation to warrant holders
Gearing • Underlying Security Price _(Call warrant price x Exercise Ratio)
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Key Features of Call Warrants Issued in Malaysia (Cont’d)
Event Days1 2 3 4 5 6 7 8 9
Launching of Term Sheets; Notif ication to all Selling Agents
Offer closes at 3.30 pm; Allocation at 4.30 pm; Issuance of Placement Letters
Selling Agents to remit payment to CIMB
Submission of MCD Tape
Submission to SC on List of Placees
New spaper advertisement on f inal issue price, exercise price & stock codes
Listing of Call Warrants
5
Click to edit Master title style
Click to edit Master subtitle styleSection 4
THE SIX MYTHS OF CALL WARRANTS
The Six Myths of Call Warrants
MYTH COMMENTS
MYTH # 1Zero Sum Game - Third-party call warrant issuers make money out of warrant investors
• This perception is wrong. When a warrant issuer issues call warrants, the warrant issuer needs to buy underlying shares to hedge the short warrant position at the inception of the call warrant issue. To achieve a delta neutral position, the warrant issuer employs various hedging strategies including a strategy to continuously hedge the short call warrant position by (a) buying more underlying shares if underlying share price goes up, or (b) selling existing underlying shares if the underlying share price goes down.
• If a warrant issuer does not hedge the short call warrant position, the warrant issuer will be exposed to unlimited loss caused by rising underlying share price.
• SC and BNM require warrant issuers to have a comprehensive risk management framework for hedging warrants issued.
MYTH # 2A warrant issuer hopes that the underlying share price goes down so that it can earn the entire issue price
• A third-party warrant issuer like CIMB does not take any view on the direction of the underlying share price. Instead, a warrant issuer seeks to achieve neutral position in the option Greeks or risk variables such as delta, gamma, vega, theta, and rho.
• CIMB does not earn the entire issue price. The issue price is used for funding the initial purchase of underlying shares, the subsequent delta hedging activities and listing expenses. As an issuer, CIMB provides an alternative trading instrument which limits the downside risk while retaining the upside potential.
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The Six Myths of Call Warrants (Cont’d)
MYTH COMMENTS
MYTH # 3A warrant issuer issues call warrants with the hope to dispose shares
• A third-party warrant issuer like CIMB buys underlying shares to hedge its position at inception. CIMB will only dispose underlying shares it bought at the inception of the call warrant issue as and when (a) underlying share price goes down, or (b) a call warrant holder exercises a cash-settled call warrant. On the latter, CIMB will need to dispose the underlying share to pay the call warrant holder.
• Cash Settlement Amount = maximum (0, Closing Price–Exercise Price) x 1 / Exercise Ratio.
MYTH # 4You can trade call warrants indefinitely
• All call warrants have definite life. Call warrant holders are advised to consult their dealers on the maturity date of the call warrant.
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The Six Myths of Call Warrants (Cont’d)
MYTH COMMENTS
MYTH # 5A warrant issuer issues warrants at higher exercise price so that the warrant issuer can cash out at higher price
• This is really a trade off between the exercise price and the issue price. If the issuer issues a higher exercise price, the issue price of the call warrant will be lower and vice-versa. So, a warrant issuer issues warrants based on investors’ preference during the launch period.
Example:
Warrant Warrant Price(as at November 3, 2006)
Strike Price Share Price(as at November 3, 2006)
Tenaga – CA RM 2.220 RM 7.96
Tenaga – CB RM 0.745 RM 9.08
Tenaga - CC RM 0.375 RM 10.00
RM 10.10
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The Six Myths of Call Warrants (Cont’d)
MYTH COMMENTS
MYTH # 6Call warrant is an illiquid instrument. You can’t liquidate once you buy Call Warrant
• Warrants with designated market makers are liquid. Warrant issuers are required to market make their warrants.
Closing Price
Counter Average Volume 2 October 2006 9 November 2006 UP/DOWN
Bursa Malaysia 1,341,308 5.750 6.850 19.13%
Bursa-CA 1,341,350 0.340 0.460 35.29%
Genting 1,162,119 23.900 26.250 9.83%
Genting-CA 7,900,635 0.220 0.350 59.09%
IOI CORP 1,662,558 16.400 18.400 12.20%
IOI-CA 457,208 0.370 0.710 91.89%
Gamuda 1,764,923 3.980 4.600 15.58%
Gamuda-CC 613,981 0.300 0.475 58.33%
Resorts 1,766,931 11.100 12.100 9.01%
Resorts-CA 1,473,541 0.455 0.460 1.10%
Tenaga 7,999,635 9.650 10.400 7.77%
Tenaga-CB 454,238 0.650 0.865 33.08%
Tenaga-CC 146,929 0.450 0.475 5.56%
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Click to edit Master title style
Click to edit Master subtitle styleSection 5
BEHAVIOUR OF CALL WARRANTS
Behavior of Call Warrants
Intrinsic value
Time value
Exercise Price
Call WarrantPrice
Theoretical Call Warrant Price
Call Warrant Price at Maturity
Underlying Share Price
1 2 3 4 5 6 7 8 9 Underlying share price (RM) 8.00 8.50 9.00 9.50 10.00 10.50 11.00 11.50 12.00 Exercise Price (RM) 9.08 9.08 9.08 9.08 9.08 9.08 9.08 9.08 9.08 Theoretical call warrant price (RM) 0.24 0.35 0.49 0.66 0.84 1.04 1.26 1.48 1.71
Conversion ratio (warrants/share) 2.00 2.00 2.00 2.00 2.00 2.00 2.00 2.00 2.00 Call warrant price (RM) x conversion ratio 0.47 0.71 0.99 1.32 1.69 2.09 2.52 2.96 3.43 Instrinsic Value (RM) - - - 0.42 0.92 1.42 1.92 2.42 2.92 Time Value (RM) 0.47 0.71 0.99 0.90 0.77 0.67 0.60 0.54 0.51
Gearing (times) 16.86 12.04 9.10 7.21 5.93 5.03 4.37 3.88 3.50 Premium 19.4% 15.1% 11.9% 9.4% 7.7% 6.4% 5.4% 4.7% 4.2%
* Theoretical call warrant price is based on CIMB's assumption as of June 28, 2006.
Scenario
10
Behavior of Call Warrants (Cont’d)
Intrinsic value
Time value
Call WarrantPrice
Intrinsic value
Call WarrantPrice
Call Warrant Price
at Maturity
Theoretical Call Warrant Price
Theoretical call warrant price decays and moves to intrinsic
value as time goes to maturity
Call Warrant Price
at Maturity
Theoretical Call Warrant Price
Underlying Share Price
Underlying Share Price
Exercise Price
Exercise Price
Sensitivity FactorsImpact on CallWarrant's price
Underlying Value
Volatility
Maturity
Interest rate
Dividend
11
Click to edit Master title style
Click to edit Master subtitle styleSection 6
WHY BUY CALL WARRANTS?
Why Buy Call Warrants?
REASON
Leverage Play
Gearing of 4 to 12 times. CIMB is the liquidity provider for all its call warrants issues
Unlimited Upside & Limited Downside The maximum loss = Price of the call warrant the investor purchase
= A fraction of underlying security price
Magnum (3735) Magnum CW (3735CA)
Share Price
Change Price Change
(a) (b) (c) (d) (a) / (c) (d) / (b)
6-Nov-06 RM 2.21 - 0.240 - 9.21x -
7-Nov-06 RM 2.21 0% 0.255 6.25% 8.67x 6.25x
GearingReturn of
Magnum-CA to Magnumi
Date
12
Why Buy Call Warrants?
REASON
Better Alternative than Share Margin Financing
• No margin call
• No processing fee, rollover fee, etc
• Limited downside risk
• No collateral required
• Substantially higher leverage
Low Transaction Costs Less brokerage and opportunity cost of capital
Liquidity CIMB is the liquidity provider for all its call warrants issues. Subject to certain market condition, CIMB will provide a two-way market for its call warrants issues during the tenure of the warrants
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Click to edit Master title style
Click to edit Master subtitle styleSection 7
HOW TO CHOOSE CALL WARRANTS?
How to Choose Call Warrants?
Pick your underlying
The performance of warrant is tagged closely to the price performance of the underlying security. Investors should research the outlook of the underlying security and determine the target underlying security price within investment period.
Generally, investors should only buy a call warrant if they are bullish on the underlying share.
Select the best warrants
Every warrant is unique i.e. different Exercise Price, Expiry Date, etc. Investors should compare features of various call warrants of the same underlying security. The features are Effective Gearing, Premium, time to expiry, etc.
Risk assessment
Investors should understand the dynamics of how the product works, the associated risks, and their risk tolerance before buying any product.
Warrants liquidity
Most warrants are illiquid. Pick warrants with a good liquidity provider
Step 1 Step 2 Step 3 Step 4
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Click to edit Master title style
Click to edit Master subtitle styleIMPORTANT NOTICE
Important NoticeThis document has been prepared by CIMB Investment Bank Berhad (formerly known as Commerce International Merchant Bankers Berhad) (“CIMB”) solely for use at the product briefing. This document may not be copied, distributed, reproduced or otherwise disseminated to any other person, or published in whole or in part for any purpose, without the written consent of CIMB.
This presentation has been prepared on the basis of information that is believed to be correct at the time the presentation was prepared, which has not been independently verified. No representation or warranty express or implied is made as to, and no reliance should be placed on, the fairness, accuracy, completeness or correctness of such information or opinions contained herein. Neither CIMB nor any of its affiliates, advisers, employees, agents or representatives shall have any liability whatsoever (in negligence or otherwise) for any loss howsoever arising from any use of this document or its contents or otherwise arising in connection with this document.
This document does not constitute an offer or invitation to purchase or subscribe for any securities of CIMB and no part of it shall form the basis of or be relied upon in connection with any contract or commitment whatsoever. Any decision to purchase securities in an offering should be made solely on the basis of the information contained in the Base Prospectus and relevant Term Sheet prepared in connection with the offering.
Click to edit Master title style
Click to edit Master subtitle styleCONTACT INFORMATION
Team – Equity Derivatives Unit
Charon Wardini MokhzaniDeputy Chief Executive
CIMB Group
Dato’ Nazir Razak Group Chief Executive
CIMB Group
Senior Leadership
Core Team
EQUITY DERIVATIVES UNITEQUITY MARKETS & DERIVATIVES
Dato’ Robert CheimAdvisor
Lim Jong HauDirector
Larry Ch’ngAssistant Director
Adilah Abdullah BaharuddinManager
Eunice SawAssistant Manager
Murni AzmiAssociate
Contact Information
For enquiries, please contact:
Larry Ch’ngAssistant DirectorEquity Derivatives UnitT: (60) 3 2084 9942F: (60) 3 2093 6098 E: larry.ch’[email protected]
Eunice SawAssistant Manager
Adilah Abdullah BaharuddinManagerEquity Derivatives UnitT: (60) 3 2084 9942F: (60) 3 2093 6098E: [email protected]
Murni AzmiAssociateEquity Derivatives UnitT: (60) 3 2084 9942F: (60) 3 2093 6098 E: [email protected]
Equity Derivatives UnitT: (60) 3 2084 9942F: (60) 3 2093 6098 E: [email protected]