Investment Instruments

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Investment Instruments

• Mr Chong Kek Weng

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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
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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
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2836 (1 Dec 06)
2837
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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
10 Mar 08
31 Jan 08
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REITs - Yields
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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 SP 500
SPDRs, iSharesSM SP 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
pre-determined 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 assets 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 pre-determined 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
MoneySMART Personal Finance 08
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Qian Hu Warrants - info
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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
Profit Zone
Loss Zone
Breakeven price
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Payout Profile of a Put Warrant
 
Profit Zone
Loss Zone
BreakevenPrice
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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 - gt 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
Time constraint - expiration
Limited/small investment amount
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

• 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
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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 S1000. 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 _at_
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 Description Risks Involved
Equity or Bond-linked Equity-linked deposits are linked to stocks, or a basket of stocks, as determined by the issuer. Equity-linked deposits may also be linked to an equity index (for example, the SP 500) or a group of indices. Bond-linked deposits are linked to bonds (for example, Singapore Government Securities). 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. 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 Description Risks Involved
Interest rates-linked Returns are usually linked to a formula that makes reference to a specific floating interest rate (for example, the Singapore Interbank Offer Rate). 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. 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. Returns may depend on the direction in which interest rates move, or the pace at which interest rates change. 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.
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Type of Structured Deposit Description Risks Involved
Credit-linked 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). 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 40 30 20 10 0 -10 -20 -30
Starting Index Level
Profit and loss
Return of Principal plus equity upside
opportunity if the underlying index is above the
starting index level
Return of Principal if underlying index is below
the starting index level
70 75 80 85 90 95 100
105110115 120
Price or Index Level at maturity
Credit Linked Note
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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?
MoneySMART Personal Finance 08
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Structured Deposits
These products add nothing to retail
investors portfolios that cant 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