Den of The Lion Investor

Previously, I wrote about the Merrill Lynch China Participation Certificates. Actually, Merrill Lynch were not the first bank to launch such a product on SGX. An earlier issuer was ABN Amro with their series of Zero Certificates.

The ABN Amro Zero Certificates are non-leveraged warrants that give investors the ability to invest in focused themes and foreign markets that are not so easily accessible. Of course, you could always invest in some of these markets via unit trusts. However, if you want a low cost option, zero certificates are another alternative.

Here’s the list of certificates currently available:

Market Access Zero Certificates

• KOSPI 200 Index Zero Cert
• ABN AMRO Indonesia Index Zero Cert
• ABN AMRO Middle East Index Zero Cert
• ABN AMRO Pakistan Index Zero Cert
• ABN AMRO Philippines Index Zero Cert
• ABN AMRO Vietnam Index Zero Cert
• DAXGlobal® BRIC Index Zero Cert
• Dow Jones Euro STOXX50® Index Zero Cert
• Dow Jones Turkey Titans 20 Index℠ Zero Cert
• Kuala Lumpur Composite Index Zero Cert
• Nikkei-225 Stock Average Zero Cert
• Shenzhen B-share Index Zero Cert
• Thailand SET 50® Index Zero Cert

Theme-Based Zero Certificates

• RICI® EnhancedSM Commodity Index Zero Cert
• RICI® EnhancedSM Agriculture Index Zero Cert
• ABN AMRO BRIC Infrastructure Index Zero Cert
• ABN AMRO World Farmers Index Zero Cert
• ABN AMRO Climate Change & Environment Index Zero Cert
• ABN AMRO Global Metal And Mining Index Zero Cert
• ABN AMRO Luxury Index Zero Cert
• GPR/ABN AMRO Asia Pacific TOP20 Property Index Zero Cert
• ABN AMRO Shipping Index Zero Cert

You can see that the list provides quite a number of choices to an investor.

These index-linked certs mirror the performance of the underlying index by buying into a basket of index component stocks of a particular country or particular theme. Since the moment is tracked at a gearing ratio of 1, Zero Certs replicate the performance and there is no time decay.

Typically, the certificates have an expiry of about three years. That means if you are holding the cerificates on the expiry date, you will be paid the value of the certificates. It is likely that ABN Amro will create a similar product at that time so that you can reinvest your proceeds into the same market if you so desire.

This part is not so favourable as you will incur trasaction cost. However, according to what I heard from one of the ABN Amro staff, the bank is looking at creating certificates that have a much longer expiry date.

You can refer to the ABN Amro website for more details about this instrument.

Yesterday night, I attended a talk organised by Merrill Lynch on one of their latest products, China Participation Certificates. According to the information on the brochures, the Certificates are a cost effective way for investors to obtain access to selected China-themed sectors, based on the research of specialised Merrill Lynch analysts.

The session begun with a presentation by Mark Matthews, a strategist at Merrill Lynch. Mark’s presentation was on the outlook for China. His views on China were very positive, with some of the following reasons given:

• High growth rate
• Urbanization still has years to run
• Growth in fixed investments and exports
• Accelerating consumption
• Increasing domestic liquidity due to export earnings
• Strength of Reminbi will keep CPI down

Well, I certainly wasn’t expecting a negative outlook given that the objective of the seminar was to promote their China Certificates.

The next speaker after Mark was another Mark, Mark Wang. He’s the director of the financial products group in Merrill Lynch. Mark gave the overview on how the certificates are created.

Using Merrill Lynch research, specific China themes are selected and SGD indices will be created based on them. The corresponding Certificates which track those indices will then be created, placed out to investors and traded on SGX.

According to Mark, investors are often overwhelmed with an ocean of financial information and it is quite difficult for them to choose the correct sector to invest in. They are also increasingly looking for securitized investment ideas.

Using Merrill Lynch’s Certificates, investors can now get access to top-notch research ideas. These are the sectors that have been selected by Merrill Lynch and their reasons for doing so:

China Water

• Global population growth and increased demand for water supply
• China has the world’s largest population
• As water resources become scarce, the value of water will rise
• Beneficiaries will be companies which collect water from end users, operate in affluent regions with relatively high returns, and specialise in water conservation/purification with marketable products or technologies

China Brands

• Major consumption boom coming
• Rising middle class and Generation Y will propel demand for branded goods
• Increasingly homogeneous market

H-Shares Discount

• Constructed based on the stocks likely to benefit from a growth in the China economy
• H-shares trading at a discount to their corresponding A-shares are purchased

S-Shares

• Constructed based on the stocks likely to benefit from a growth in the China economy and listed on Singapore Exchange

The last speaker of the session was Wong Kok Fai, the director of Merrill Lynch’s equity structured solutions. Kok Fai gave us a more detailed explanation on how the Certificates were supposed to work.

The Certificates are listed securities with 100% exposure to the underlying index. They are Bermudan style warrants (early exercise option available) with a zero exercise price and 1-1 conversion ratio. As such, they have zero gearing and no time decay factor.

With a three year expiry date, they are meant as medium to long term investments.

There is a passive management style as they simply track the index. The annual management fee is 1% and all the dividends paid out by the stocks are also paid to the fund managers.

Even though the Certificates has an early exercise option, most of the retail investors will probably not need to use that option as they can just sell them on the market. Merrill Lynch will be the market maker and provide accurate quotes for the prices.

And with that, the session ended with everyone rushing for the refreshments. Even the originally scheduled Q & A session was cancelled and we were told it would be held outside informally.

My take on this product?

I find the 1% + dividend payout as fees a bit on the high side for a ETF sort of product. This makes it unattractive to me.

However, if someone wants to invest in China via unit trusts, this might be a viable alternative.

Before I left, I interviewed one of the other attendees Jackson on his views about the session and this is what he had to say:

“The food was alright, and the water-melon was quite sweet. But everyone seemed to be rushing to queue for the food.“