Money Market instruments

Report
Investment Instruments
Mr Chong Kek Weng
Outline
1. Money Market Instruments
Fixed deposits
Treasury bills
Money market funds
2. Capital Market Instruments
Shares
Investment Trusts
Exchange Traded Funds
Warrants
Bonds
Structured Deposits
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Inflationary Risks
Treasury Bills
Short-term securities that mature in one year or less from
their issue date (3 -12 months)
Bought and sold at a price less than face (par) value
Maturity proceeds - amount of S$ equivalent to the face
value of the security
Interest earned on the T-bill is the difference between the
purchase price of the security and its face (par) value
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Money Market Funds
Unit Trusts which invest in ST instruments
SIBID or SIBOR
Distributors
- dollardex, fundsupermart etc
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Capital Market instruments
Shares
Investment Trusts
Exchange Traded Funds
Warrants
Bonds
Structured Deposits
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Shares
Ordinary shares traded in lots of 1000 shares
Smaller denominations (100, 200 shares)
Growth, Defensive, Blue Chip, Cyclical
 Price appreciation
 Dividend
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STI Index – Mar 07 to Mar 08
3875
10%
3467
27%
2836
(1 Dec 06)
2837
Investment Trusts
Real Estate Investment Trusts (REITs)
Business Trusts
Launch of Singapore's first listed Real Estate
Investment Trust (REITs) in July 2002
REITs are property funds that invest in real estate
assets such as commercial, industrial, retail,
hospitality, logistics and residential properties
CapitaMall Trust, Ascendas, Fortune REIT etc
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REITs
31 Jan 08
10 Mar 08
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REITs - Yields
Investment Trusts
Business trusts - business enterprises set up as a trust
structure, as opposed to a corporate structure. hybrid
structures with elements of both companies and trusts.
Not focused on real estate assets and are suited for
businesses with stable growth and cash flow, such as
infrastructure or utilities, vehicle leases, charter
businesses
Babcock & Brown, CitySpring, Shipping Trusts
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Investment Trusts
The income of REITS and business trusts are pooled and
distributed pro rata to the unit holders of the trust
Appeal to investors looking for investments that are
backed by assets and that provide returns mainly in the
form of a regular payout rather than capital gains
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Investment Trusts Risks
REITS and business trusts subject to market fluctuations
The unit price of a REIT or business trust depends on many
factors and may go down if underlying assets drop in value
Projected dividend distributions may not be achieved if the
income of the REIT or business trust is lower than expected
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Exchange Traded Funds (ETFs)
Open ended investment funds listed and traded
on a stock exchange like stocks
As investors buy and sell an ETF, market maker can create
new units or cancel units to meet market demand and ensure
ETF price in line with the net asset value of the ETF
Possible because ETFs open ended investment funds with
creation and redemption features
Aim to track the performance of an index and provide
access to a wide variety of markets and asset classes
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ETFs
SGX Xtranet created to list and trade structured products
such as ETFs
Initial 6 ETFs S&P 500 SPDRs®, iSharesSM S&P 500
Index Fund, DJIA DIAMONDS®, iShares Dow Jones U.S.
Technology Sector Index Fund, iSharesSM MSCI
Singapore Index Fund and streetTRACKSSM Straits Times
Index Fund
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ETFs - Advantages
ETFs similar to unit trusts
Allow for diversification and professional management
Diversified Portfolio – can invest 100% of CPF funds
compared to 35% in individual stocks
Low Cost
Less than 1% annual management fees and usual stock
broking commission
Annual management fees of only 0.3% for StreetsTRACK STI
Employ a passive indexing strategy
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ETFs - Advantages
Tradeability – buy and sell like stocks
Transparency – closely mirrors underlying index
of which components are disclosed on daily
basis
Efficiency - No need to stock pick
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ETFs
Prices as at
31 Jan 08
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ETFs - RISKS
Market risk
market risk or volatility of the specific benchmark which the ETF
tracks. e,g, performance of the iShares MSCI India ETF directly
affected by the price fluctuations of constituent stocks within the
MSCI India Index
Tracking error
Fund manager of ETF may not be able to exactly replicate the
performance of the specific benchmark due to management
fees, timing differences and other factors
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ETFs - RISKS
Foreign exchange risk
ETFs denominated in foreign currencies, foreign exchange
rate fluctuations may affect the returns
Liquidity
Risks arising from difficulty in buying or selling an ETF.
Liquidity provided by market maker who put up continuous
bid/ask prices throughout the trading day.
“the best way to own common stocks is
through an index fund...“ Warren Buffet
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Warrants
gives the owner/investor the right but not the
obligation to buy/sell the underlying asset at a
pre-determined price on (or before) a predetermined date
Underlying asset can be a stock, index, currency,
commodity etc
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Warrants - Characteristics
Right but not the obligation
Value is affected by the underlying asset’s
price
Longer maturity means a higher warrant value
More volatile the underlying price, the higher
the price of the warrant
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Equity warrants
Issued by listed company
they are exercised for shares at a predetermined price (exercise or strike price) that is
paid on exercise
Warrants have a fixed tenure called the exercise
period and, if not exercised, are worthless after
their expiry date
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Equity warrants
Value of Equity Warrants
The value of the warrant may be dependent
on a number of factors. The two important
ones are
–the exercise price of the warrant, and
–the current market price of the shares
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Equity warrants
Qian Wu Corp Ltd W100919
Qian Wu
Warrant
Maturity
Conversion Ratio
:
1
Exercise Price
:
$0.035
Current Warrant Price :
$0.12
Current Share price
$0.16
:
*Prices as at 26 Nov 07
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Qian Hu Warrants - info
Covered or Structured Warrants
Not issued by the listed companies but by third parties
Third parties normally banks, stock broking firms etc
Settlement is by cash and not delivery of shares
SEMCORP INDUS SGA ECW 080303
03/03/08
SemCorp Industries Societe Gen
European Call Warrant
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As at 26
Nov 07
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Call and Put warrants
Price dependent on “underlying” share, exercise
price, volatility of share price and expiry date
Buyer of call warrants expect price to rise (bullish)
whilst buying of a put is a hedge against potential
price fall. (bearish)
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Payout Profile of a Call Warrant
Payoff
Profit?
Payoff Function
for Buyer of a
Call Option
Strike
Price
Profit Zone
45o
Loss
0
Call
Premium
Price of the
Underlying Asset
Loss Zone
Breakeven price
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Payout Profile of a Put Warrant
Profit→
Payoff
Profit
Zone
45o
Strike
Price
Price of the
Underlying Asset
←Loss
0
Loss Zone
BreakevenPrice
Payoff Function
Buyer of a Put
Option
Put
Premium
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Warrants
Value of warrants?
The intrinsic value of the warrant is the
difference between
exercise price of a warrant
market price of the underlying shares.
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CALL warrant
in-the-money if the market price of the underlying
share is above the exercise price of the warrant.
out-of-the-money if the market price of the
underlying share is below the exercise price of
the warrant.
at-the-money when the market price of the
underlying equals the exercise price of the
warrant.
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Warrant - life
Time Decay to Expiration
Time
Value
A quick ending time decay is
low at the beginning of the
warrant lifetime but
accelerates towards expiration
90 days
60 days 30 days 0 day
Remaining Lifetime
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Warrant - value
Other Factors
Days to Maturity - > the higher the warrant
Implied volatility – market expectations for
volatility of the underlying within a future period
of time. Positive relationship
Interest Rate – represents opportunity cost that
can be saved by investing in a warrant.
Dividends – when dividends increase more than
expected, price falls on ex- dividend date
Conversion Ratio – higher, lower the warrant
price
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Structured warrants vs Stocks
Unlimited upside/ limited downside
Limited/small investment amount
Time constraint - expiration
John
Jim
Purchase
1000 shares of UOB
1000 UOB warrants
Buys
$14.50
$0.20
Sells
$15.20
$0.30
Gain
$700
$100
Return or gain
4.83% (700/14500)
50% (100/200)
Gearing - Leverage double edged and works both ways
Can protect the value of your assets
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Warrants - Risks
• Liquidity
• Market
• Default on market making obligation
• Limited life of warrants
• Extraordinary event
“Warrants, options and all derivatives are zero-sum, which
make them more like gambling than investing.” Dr Money
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Warrants - Investment Tips
1. Understand warrant characteristics
2. Identify market direction and choose right investment
product
3. Determine the investment horizon
4. Choice of warrants
5. Consider implied volatility
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Warrants - Investment Tips
Put in stop loss - under all circumstances investors
should make it a discipline to stop loss
Buying more to average out is never a good idea as it
means assuming greater risks.
Time decay working against you
If underlying keeps falling, warrants may go from ITM to
ATM and OTM. For a warrant deep OTM and about to
expire, relatively insensitive to movement of underlying
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Others – Zero Strike
Participation Certificates
Bonds
Most common and carries a fixed interest rate and
repayable at maturity at the redemption price fixed
at the date of issue
Redemption price usually fixed at par and interest
payable semi-annually or annually
Attraction of bond depends on reputation, coupon
rate, currency, interest rate prevailing in the market
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Singapore Government Securities
Bonds are debt securities that pay a fixed rate of interest
(called the coupon), usually every six months, for the life
of the securities and then their face (par) values on
redemption on maturity
SGS bonds are issued with maturities of 2, 5, 7, 10 and
15 years.
The minimum denomination of both SGS T-bills and
bonds is S$1000. Can use CPF funds
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SGS Purchases
First, approach any participating bank i.e. a Primary
Dealer or Secondary Dealer of the SGS market to open
a SGS trading account
Purchase SGS over the counter with these banks
Scripless, ownership of SGS reflected as a book entry in
the investor's account with the bank
Primary auctions, need to open accounts with and
submit your bids through the Primary Dealers or through
any Secondary Dealers who will submit bids
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SGS - Considerations
Riskless security, negligible Credit default risk
Inverse relationship to interest rate movements
Price and market risk
Liquidity of issues
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STRUCTURED DEPOSIT
A combination of a deposit and an investment product,
where return dependent on the performance of some
underlying financial instrument
Typical financial instruments linked to such deposits
include market indices, equities, interest rates,
fixed-income instruments, foreign exchange or a
combination of any
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STRUCTURED DEPOSITs
DBS Pinnacle Notes Series 1-7 @
Deutsche Bank Double Chance Certificates
May Bank Regal Structured Deposit
BNP Star Select
Rabobank – Rabo Jet Series 1,2,3
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Type of
Structured
Deposit
Equity or
Bond-linked
Description
Risks Involved
Equity-linked deposits are linked
to stocks, or a basket of stocks,
as determined by the issuer.
Returns are dependent on the
performance of the equities/bond
market. Exposed to the risk that
the markets do not move in the
direction you anticipated.
Equity-linked deposits may also
be linked to an equity index (for
example, the S&P 500) or a
group of indices.
Bond-linked deposits are linked
to bonds (for example, Singapore
Government Securities).
Exposed also to the risk that the
issuer of the bonds or stocks
becomes insolvent. If this
happens, your returns may be
zero.
Issuer may cap returns, or may
exercise its right to cap returns if
the equities/bond market
perform far beyond expectations.
With returns capped, you bear
the opportunity cost of
potentially higher returns had
you invested directly in the
equities or bonds
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Type of
Structured
Deposit
Interest
rates-linked
Description
Risks Involved
Returns are usually linked to a formula
that makes reference to a specific floating
interest rate (for example, the Singapore
Interbank Offer Rate).
Returns may depend on the
direction in which interest
rates move, or the pace at
which interest rates change.
The formulas used for such deposits may
display a number of characteristics.
Instead of being directly related to the
specified interest rate, your returns may
be inversely related i.e. when the
specified interest rate falls, you may get
better returns. Such products may be
called "inverse floaters" or "reverse
floaters“.
Exposed to the risk that
interest rates do not move in
the direction you anticipated,
or the interest rate curve is
steeper or more gradual than
you had anticipated.
The payouts on such deposits may also
rise or "step up" at pre-determined points
in time if the deposit is not redeemed by
the issuer.
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Type of
Structured
Deposit
Creditlinked
Description
Unlike other structured deposits,
returns on this type of deposit is
not linked to the performance of a
financial instrument, but rather the
occurrence of what is known as a
"credit event" (for example, if a
specified company becomes
insolvent or defaults on its loans).
Risks Involved
Returns are entirely exposed to
the credit risk of the specified
company, or any other party
that the issuer has entered into
a contract with.
Need to be able to assess the
likelihood of a credit event
occurring to this party.
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Features
Structured Deposits
S$ Fixed
Deposits
Minimum Deposit
higher
lower
Maturity
Variable (2 wks to 10 yr)
fixed
Principal
Repaid in full upon maturity or
redemption
Repaid upon maturity
Early Withdrawal
(investor)
Depends on underlying – may
lose principal
May incur a penalty –
not lose principal
Early Redemption
(issuer)
Possible with call feature or
“trigger” when payouts reach a
target rate
No such clause
Risks/Returns
More risky than FDs but less
risky than direct investments.
Principal protected. Variable
returns pending call, cap,
participation rate etc
Low risks/returns
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Equity Linked Note (ELN)
Instrument provides investors fixed income like principal
protection together with equity market upside exposure
Limited downside risk but upside potential
Structured by combining the economics of a long call
option (10%)on equity with a long discount bond
position (90%)
Appropriate for conservative equity investors or fixed
income investors who desire equity exposure with
controlled risk
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Profit Diagram of a ELN
60%
50%
Profit 40%
and
30%
loss 20%
10%
0%
-10%
-20%
-30%
Starting
Index Level
Return of Principal if underlying
index is below the starting index
level
70% 75% 80%
Bond
+
Call
Option
Return of Principal plus
equity upside opportunity if
the underlying index is
above the starting index
level
Credit
Linked Note
85% 90% 95% 100% 105%110%115% 120%
Price or Index Level at maturity
Principal Protection
Equity Participation
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Structured Deposits
Banks not forthcoming with information on yearly
returns. Min and Max Returns
Focus on hype. Initial large payout – advertising ploy?
May have been simply a return of a portion of your capital
Gains capped and early redemption
Lack of transparency and complex link with basket
No free lunch. Really principal guaranteed? Liquidity?
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Structured Deposits
“These products add nothing to retail investors’
portfolios that can’t be acquired from investments
“already available in the market in the form of less
risky, less complicated, or less costly products” and
therefore fail the “reasonable-basis” suitability
requirement for sale to retail investors.”
Are Structured Products Suitable for Retail
Investors? (15 Dec 2006)
Craig McCann, PhD, CFA and Dengpan Luo, PhD, CFA
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Conclusion – Risks v Return
Stocks
Return
Structured Deposits
Bonds
Money Market Instruments
Deposits
Risk
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Conclusion
• Determine investment objectives and investment
horizon, asset allocation
• Understand risk profile. Be aware of how much you
can afford to invest and how much losses you can
afford to incur
• Investor education. Understand how the product
works before you invest. Do not invest in anything
you do not understand or are not comfortable with
• Long term to ride out cycles
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