What are bull and bear certificates?

Bull and bear certificates are a type of option-based financial derivative instrument. To understand bull and bear certificates, grasp their two main attributes.

Firstly, since it is a derivative product, just like warrants and options, its most obvious feature is the leverage effect, where high risk and high return coexist.

Secondly, the biggest difference between bull and bear certificates and warrants and options lies in the fact that bull and bear certificates have a forced redemption mechanism. Once the tracked asset price reaches the agreed redemption price, the relevant bull and bear certificates will be halted from trading and forced to redeem.

Naming convention of bull and bear certificates

Taking the "Tencent B.C Leveraged Bull Certificate" as an example to understand the naming convention of bull and bear certificates, do not be intimidated by this seemingly cryptic name as there is a pattern to it which becomes clear upon closer examination.

A. The first two words represent the name of the underlying stock. In this bull and bear certificate, the underlying stock is Tencent, indicating that this bull and bear certificate tracks the movement of Tencent.

B, the two letters in the middle, are the abbreviation for the issuing investment bank of bull and bear certificates. The third-party issuer of these bull and bear certificates is Societe Generale.

C, the last two letters, represent the exercise year and month. "8A" indicates that this bull and bear certificate will be exercised in February 2021.

D, the first letter, represents that this investment bank has issued multiple bull and bear certificates with the same exercise time for this asset, but with different exercise conditions (such as exercise price), distinguished by letters, etc.

F, the last letter, 'C' indicates it is a bull certificate, while 'P' is used for bear certificates, which are the English abbreviations for Call and Put.

Risks of bull and bear certificates

For bull and bear certificates, the most important information is their redemption price. It can be seen that the redemption price of this bull certificate is 380 Hong Kong dollars, which means that once Tencent falls to 380 Hong Kong dollars at any point in time, this bull certificate will immediately cease trading and be redeemed by the issuer. The original maturity date of February 25, 2020 will no longer be valid. It can be simply understood that once the trigger price is reached, it is forcibly redeemed, which is the key difference between bull and bear certificates and warrants.

Continuing with Tencent as an example, after a significant increase in the stock price, there were two consecutive trading days of pullback, with the stock price falling back to 485 Hong Kong dollars. As a result, many bull certificates with redemption prices below 490 were redeemed and trading was terminated on June 26, 2020.

There are two types of bull-bear certificates, N-type (without balance) bull-bear certificates will have no value when they are called back, R-type (with balance) bull-bear certificates may have some remaining value when called back, or may end up with no value.

The formula for calculating the remaining value of R-type bull-bear certificates is as follows:

For example, if there is a bull certificate with a call price of 22,350, an exercise price of 22,250, and if the Hang Seng Index falls to 22,350 on a trading day and then drops to 22,300, the remaining value per unit of the bull certificate is (22,300-22,250)/10,000 = 0.005 Hong Kong dollars. Compared to the current price of 0.18 yuan, more than 95% has already been lost. If the lowest point of the Hang Seng Index falls below 22,250 on the same day, then there will be no remaining value. If there is remaining value, the related settlement amount will be automatically transferred to the Central Clearing House for automatic transfer to the investor's securities account approximately 3 settlement days after valuation.

Therefore, when investing in bull-bear certificates, do not harbor any lucky mindset. Once called back, huge losses will immediately occur. Even if there is remaining value, the matter is settled. Therefore, generally speaking, you can choose bull-bear certificates with a call price far from the current price, reducing the risk. However, the corresponding leverage will also be smaller, depending on the investor's risk preference.

Whether a bull-bear certificate is R-type can be confirmed in the stock's announcements, such as the above-mentioned 60939 being R-type, and currently most bull-bear certificates are R-type.

Advantages of bull-bear certificates compared to warrants

The disadvantages of bull and bear certificates are obvious, but their advantages must also be emphasized. In terms of factors affecting price trends, compared to warrants, the pricing factors of bull and bear certificates are simpler, without the phenomenon of price movements caused by implied volatility. For example, many investors in trading warrants may have the following painful experience: they buy call warrants based on their bullish view on a stock, and later the stock indeed rises, but surprisingly the price of the call warrants falls instead of rising, which is caused by implied volatility.

Basic elements of bull and bear certificates

When investors and banks issue bull and bear certificates, they need to submit issuance documents to the Hong Kong Stock Exchange. These issuance documents will include all the basic elements of bull and bear certificates, which are as follows:

a. Bull and bear certificate security code: Each bull and bear certificate listed will be assigned a unique code by the Hong Kong Stock Exchange, with codes ranging from 57000 to 69999. For example, the code for Tencent B.C. Bull and Bear Certificate is 6119.

b. Liquidity provider broker number: According to the rules of the Hong Kong Stock Exchange, every bull and bear certificate must have a market maker providing quotes, which is the liquidity provider. The market maker can be either the issuer themselves, or another institution commissioned by the issuer to provide quotes. The broker number is the broker number of the market maker. Taking Tencent B.C. Bull and Bear Certificate as an example, 9703 represents the market maker, which is BNP Paribas.

c. Total issuance: The total number of this bull and bear certificate issued by the issuer BNP Paribas is 300,000,000 shares. However, the full issuance is not necessarily sold to the market on the first day of listing, depending on market supply and demand. For most bull and bear certificates, the issuer may not be able to sell all shares to the market until the maturity date. Even if all shares can be sold, the issuer can continue to create bull and bear certificates. In theory, the supply of bull and bear certificates is unlimited, and there is almost no possibility of individual bull and bear certificates being manipulated.

d. Form/Type: European cash settlement R class, "European cash settlement" means that when the bull/bear certificate expires and has exercise value, the issuer will settle the cash difference with investors according to the price difference, without giving the underlying assets to investors. European bull/bear certificates can only be exercised on the expiration date, cannot be exercised during the holding period. According to the understanding of the Wise Finance APP, the R class indicates that if the bull/bear certificate is recalled, it may have residual value. All bull/bear certificates currently issued in Hong Kong are European cash settlement R class.

e. Category: Bull, indicating that this bull/bear certificate is a bull certificate.

f. Company: Tong Xing Holdings, indicating that the underlying asset of this bull/bear certificate is Tencent.

g. Trading Unit: 5,000 units of bull/bear certificates, indicating that 1 lot of this bull/bear certificate is 5,000 units.

h. Issuance Price per bull/bear certificate (Hong Kong dollars): 0.25 Hong Kong dollars, is the issuance price determined by the issuer for this bull/bear certificate. According to the rules of the Hong Kong Stock Exchange, the pricing of bull/bear certificates must not be lower than 0.25 Hong Kong dollars per share. It is important to note that the issuance price is not the final secondary market trading price. The issuance price is generally determined based on the intrinsic value of the bull/bear certificate (difference between the current price of the underlying asset and the exercise price) plus the issuer's financial costs.

i. Cost per bull/bear certificate on the launch date (Hong Kong dollars): 0.2292 Hong Kong dollars, cost is also known as financial expenses, financial expenses are the costs and reasonable profits of the issuer issuing bull/bear certificates, generally referring to the Hong Kong Interbank Offered Rate plus a specific percentage.

j. Exercise Price: 377, which is the exercise level. If the bull/bear certificate is held until expiration without being redeemed, conceptually bull/bear certificate investors can buy (bull certificate)/sell (bear certificate) the related asset at the exercise price level. However, in actual trading, the amount will be refunded to investors after cash settlement.

k. Redemption Price: 380, if Tencent falls to 380 points, the issuer will force the redemption of the bear certificate. Since there is a price difference between the redemption level and the exercise level, it is classified as an R class bull/bear certificate, and investors may receive some residual value.

l. Cash settlement amount per unit of purchase or sale at maturity (if any): If the bull bear certificate is not called back at maturity, it will be exercised, and investors will receive the cash difference approximately 3 trading days after the expiration date.

m. Launch date: The date when the issuer introduces the bull bear certificate, and the issuer will also upload the issuance documents to the Hong Kong Stock Exchange on that day.

n. Issue date: The date when the issuer officially issues the bull bear certificate.

o. Listing date: The first day when the bull bear certificate is officially listed on the Hong Kong Stock Exchange.

p. Observation start date: Same as the listing date. The observation period refers to the period from the first listing date of the bull bear certificate to the last trading day, during which the issuer will observe whether the bull bear certificate is forcibly called back.

q. Valuation date: The trading day immediately before the expiration date, which is the reference date for exercise settlement.

r. Maturity date: Refers to the expiration date of the bull bear certificate. The maturity date is not the same as the last trading day. The bull bear certificate's last trading day is generally the day before the maturity date.

S, settlement date: The final fate of bull and bear certificates is divided into two types, one is forced redemption before maturity, and the other is traded until the last trading day. In the first case, after the bull and bear certificates are redeemed, if there is residual value, the residual value will be returned to investors approximately 3 trading days after the redemption date; in the second case, if the bull and bear certificates are traded until the last trading day and investors exercise their rights, the difference in cash after the exercise will be received approximately 3 trading days after the expiry date.

T, settlement currency: Hong Kong dollars, all Hong Kong bull and bear certificates are settled in Hong Kong dollars.

U, actual leverage ratio (effective leverage ratio): 3.10 times, the actual leverage ratio refers to the multiple of bull and bear certificates compared to the underlying stocks. For example, for Tencent B.C bull certificates, if Tencent's stock rises by 1%, the bull certificate will rise by 3.10%. However, the actual leverage ratio is not a constant, it changes with the price movements of the underlying assets and bull and bear certificates.

V, leverage ratio: 3.10 times, the actual leverage ratio of bull and bear certificates is the same as the leverage ratio.

W, premium: The premium of bull and bear certificates refers to the assets' price movement required for investors to break even and exit when holding the bull and bear certificates until maturity. The premium of bull and bear certificates can also be understood as the actual value of the financial expenses charged by the issuer of bull and bear certificates. If bull and bear certificates with the same redemption price but different maturity dates are forcibly redeemed, investors holding bull and bear certificates with lower premiums will incur less financial losses than buying bull and bear certificates with higher premiums.

Hang Seng Index bull and bear certificate three key points

When investing in Hang Seng Index bull and bear certificates, investors should first determine the future trend and direction of the Hang Seng Index, then among many choices of Hang Seng Index bull and bear certificates, pay attention to the relationship between the exchange rate and face value, and monitor changes in the leverage ratio.

First of all, there are many choices for the exchange rate of the Hang Seng Index Bull and Bear Warrants in the market. Different exchange rates affect the sensitivity of the Bull and Bear Warrants to the changes in the Hang Seng Index, while also affecting their face value. In the same price range, the smaller the exchange rate, the higher the sensitivity of the Hang Seng Index Bull and Bear Warrants. In higher price ranges, the Hang Seng Index Bull and Bear Warrants need a larger change in the Hang Seng Index to move one price level. If the compared Hang Seng Index Bull and Bear Warrants are in different price ranges, it is difficult to directly determine the sensitivity of the Bull and Bear Warrants based on the size of the exchange rate.

Secondly, the face value of the Bull and Bear Warrants, namely the price, is mainly influenced by the exchange rate. If other factors (such as exercise price and expiration date) are the same, the higher the exchange rate of the Hang Seng Index Bull and Bear Warrants, the lower the face value. Therefore, what investors need to pay attention to is that a low-priced Bull and Bear Warrant does not necessarily mean it is cheap, it just means a lower amount per unit for purchase. Whether a Bull and Bear Warrant is cheap or expensive should be compared based on its annual financial cost rate, where a higher rate indicates higher fees charged by the issuer.

Lastly, it is important to pay attention to the changes in leverage ratio. The leverage ratio of Hang Seng Index Bull and Bear Warrants, like other types of Bull and Bear Warrants, moves in the opposite direction to the movement of the Bull and Bear Warrants. When a Hang Seng Index Bull Warrant rises due to an increase in the Hang Seng Index, its leverage ratio will decrease. Investors should monitor their own leverage ratio, examine the leverage ratio of the Hang Seng Index Bull and Bear Warrants they hold, and make strategic adjustments.