Last Friday, the FBMKLCI suffered its worst drop in three months as global markets sold off amid a war of words between US president Donald Trump and North Korean leader Kim Jong Un that stoked concerns over a nuclear threat. Although the North Korea rhetoric had somewhat settled down this week, Friday’s sharp pull-back underscores the market’s fragility after a period of relative calm. As it is, the FBMKLCI’s overall technical picture is signalling some risk given the “Dead Cross” between the 20-day and 50-day SMAs while foreign investors turned net sellers last week after four consecutive weeks of net buying. Of note, the FBMKLCI’s 14-day volatility jumped from the lowest level in eleven years (2.1%) last week and currently stands at 4.6%. Even so, market volatility remains uncharacteristic low and we do not rule out the possibility of a spike ahead – potentially creating fertile grounds for traders who wish to benefit from the widening premiums. In today’s batch of Naga Warrants issuances, Equity Derivatives will be issuing 12 Structured Warrants comprising AXIATA-C21 (strike: RM5.35), CIMB-C27 (strike: RM7.70), HENGYUAN-CD (strike: RM7.00), HENGYUAN-CE (strike: RM8.80), KOSSAN-CV (strike: RM7.70), MALAKOF-C3 (strike: RM1.00), MAYBANKC33 (strike: RM10.00), MRCB-C23 (strike: RM1.30), MISC-C13 (strike: RM8.00), PMETAL-CU (strike: RM3.00), SPSETIA-C1 (strike: RM3.50), SIME-C15 (RM10.00).

Structured Warrants Commentary

Most of the new Naga Warrants are being issued to replace expiring structured warrants from previous listings, with an additional few being provided as added tools for investors who wish to trade on the more active news-driven counters. Although, we have just two underlying counters with an OUTPERFORM call from this batch (PMETAL-CU and SPSETIAC1), we see potential for HENGYUAN-CD, HENGYUAN-CE, KOSSAN-CV and MAYBANKC33 to attract some trade from a charting perspective.

For PMETAL (OP; TP: RM4.05), we recently upgraded out target price from RM3.15 after Bloomberg reported that China is clamping down on c.10% of its aluminium production. According to the report, China has called for the closure of 3.21m MT of illegal aluminium capacity in China’s key aluminium production hub, Shandong - resulting in aluminium prices spiking beyond the USD2,000/MT mark for the first time since end-2014. Fundamentally, we believe that PMETAL stands to benefit given aluminium price’s recent jump to a 3-year high and have conservatively increased our FY18 aluminium price assumptions to USD1,900/MT. At the same time, we have also rolled over our valuation base year and applied a higher PER valuation of 18x (from 17x earlier).

Meanwhile for SPSETIA (OP; Ex/Cum -TP: RM4.08/ RM4.24), recent corporate exercise includes plans to acquire I&P for RM3.65b which necessitated a target price upgrade from RM3.86 previously. Post-acquisition, SPSETIA will become the third largest land owner with 9,417ac just behind SIME and UEMS in terms of land bank size. Overall, we are long-term positive on the deal as the synergies from both companies will take time to materialize. However, investors will need to give SPSETIA 1-2 years before I&P’s land banks can be realized more aggressively. In the meantime, we expect FY18E core PER to expand by 31% to 21.7x and have raised our FY18E CNP by 5% after accounting for I&P’s potential contributions and iRCPS costs.

Worthy of mention, HENGYUAN experienced active trading in its shares and has been the subject of wire-news highlights in recent weeks. Of the twin HENGYUAN-CD and HENGYUAN-CE listings, we favour HENGYUAN-CD (strike: RM7.00) for trading shorter term movements given its high effective gearing of 5.0x. This structured warrant is in-the-money, making the price more sensitive to changes in the underlying share price and facilitating a smoother entry and exit.

Conversely, HENGYUAN-CE (strike: RM8.80) is more suited for longer-term traders who expect high upside potential in the underlying share price. Although HENGYUAN-CE is out-of-the-money, effective gearing is still decent at 3.1x while the main advantage lies in its comparatively low delta of 0.53 (vs 0.77 for HENGYUAN-CD)

These 12 structured warrants are priced with a range of +/-17% moneyness. All the warrants issued are European Styled Non-Collateralised Cash Settled Warrants with a tenure of 7 months. The gearing ranges from as low as 3.4x to as high as 16.1x and the conversion premium ranges from 5.1% to 36.8%. Call-warrants are leveraged instruments.

For instance, by participating in PMETAL-CU, an investor is exposed to a gearing of 4.8x. To be more precise, this call warrant offers up to 2.8x effective gearing for traders. Given our fundamental target price of RM4.05 (implying a potential upside objective of 41.6% based on the EOD price of RM2.86. Theoretically speaking, a 41.6% increase in the underlying price should translate to ~117% gain in PMETAL-CU. This general estimate is applicable to other Naga Warrants as well.

Source: Kenanga Research - 15 Aug 2017