What are Zero Certs?
RBS Zero Certs (or low strike participation certificates) are a liquid, transparent product that offers investors exposure to overseas markets or innovative focused themes. Zero Certs are a good tool for both mid-long term or short term investment, and offers good opportunity for investors to diversify their investment risks.
What makes Zero Certs different from index warrants is its strike price, which is very close to zero (eg, 0.001). Hence, Zero Certs are non-leveraged and their price are not affected by implied volatility. Zero Certs can be traded any time during market hours.
RBS launched the first batch of Zero Certs in Hong Kong in 2008 Q1, which offers investors more choices of investment and higher accessibility to various markets.
Key advantages of Zero Certs
Participation in overseas markets and focused themes
Investors can make use of Zero Certs to gain exposure to overseas markets or focused themes that are not easily accessible due to foreign market trading restrictions and settlement intricacies. Purchasing Zero Certs is equivalent to buying into a basket of index component stocks of a particular country of theme, which offers investors more diversification on their investments.
High transparency
Unlike traditional warrants, Zero Certs carry a strike price of zero, eliminating the implied volatility effect on prices, and making them non-leveraged (tracking the underlying 1:1 and having effective gearing very close to 1). Hence, Zero Certs have highly transparent pricing.
Exchanged traded and highly liquid
Zero Certs are now listed on the Hong Kong Exchange and can be traded intra-day, like stocks and other warrants. Investors can liquidate their holdings any time before maturity. RBS provides a secondary market for Zero Certs during market trading hours.
Key risks of Zero Certs
Exchange rates
Underlying assets of Zero Certs are quoted in foreign currencies, while Zero Certs are quoted in Hong Kong Dollars. Hence prices of Zero Certs will be affected by the performance of Hong Kong Dollars versus foreign currencies.
Dividends
Zero Certs investors will not receive the dividends from underlying assets.
Underlying indices and volatilities
Investors are recommended to learn more about the underlying assets before they are investing into the Zero Certs. For example, they may understand more on the index components, the calculation methodologies and volatilities of the underlying assets.
Rolling effect of underlying futures
Investors should pay attention to the rolling effect of the futures of the underlying (if applicable), especially on commodities futures, which may have relative large price volatility due to rolling effect.
Comparisons of Zero Certs to other products
1.Zero Certs vs. Index warrants and CBBCs
|
| Zero Certs
| Index warrants
| CBBCs
|
| Structures
| Call warrants
| Call or Put warrants
| Bull or Bear CBBCs |
| Underlying
| Overseas markets or innovative focused themes
| Local or overseas indices
| Local or overseas stocks or indices |
| Strike
| Very close to zero
| Larger than 0
| Larger than 0 |
| Leverage
| Non-leveraged
| Leveraged
| Leveraged |
| Implied Volatility
| Insignificant to pricing
| Affects pricing
| Insignificant to pricing |
| Holding Costs
| No time decay
| Time Decay, increasing as approaching Maturity
| Slower time decay than index warrants, and will not increase as approaching Maturity |
| Mandatory call/knock out
| No
| No
| Yes, may have residual value after called |
| Trading hours
| Trade any time during market hours
| Trade any time during market hours
| Trade any time during market hours |
| Market conditions
| Positive view on underlying in mid-long term
| Volatile market，since implied volatility affects pricing
| Market with relative low volatility，since implied volatility is insignificant to pricing |
| Investors
| Mid-long term investors
| Short term investors
| Short-mid term investors |
2. Zero Certs vs. Unit trusts and ETFs
|
| Zero Certs
| Unit trust
| ETFs
|
| Concept
| Pays the price return of the underlying indices
| Tries to outperform standard indices
| Tries to track some standard indices |
| Upfront fee
| Bid-offer spread + Brokerage
| 1.5%~5.0%
| Bid-offer spread + Brokerage |
| Cost/Fees
| Index Zero Certs: Dividends and 1% annual Management Fee
Commodity Zero Certs: 1% annual Management Fee
| 1-3% annual Management Fee
Early Redemption Fee
Fund Switching Fee
| 1% annual Management Fee
Transaction Cost to be deducted from Net Asset Value (NAV)
Sold at premium or discount of Net Asset Value
Index Tracking Error |
| Trading hours
| Trade any time during market hours
| Need to place order daily, with a cut-off time
| Trade any time during market hours |
| Trading Price
| Real-time; what you see on screen is what you get
| Forward Pricing, investors will only know the price at which he sold/bought after 2 days
| Real-time; what you see on screen is what you get |
| Maturity / tenor
| Currently 3 years but investor can choose to liquidate holdings at any time. Investors get back cash settled value after expiry.
| No maturity/tenor, but if fund size drops significantly the bank can choose to close the fund
| No maturity/tenor, but if fund size drops significantly the bank can choose to close the fund |
| Characteristics
| Overseas markets or innovative focused themes
| Broader themes and geographical investments
| More traditional assets and markets to get efficiency |
How to calculate the value of a Zero Cert?
At any time, the value of the Zero Certs can be computed easily:
Zero Certs value = Underlying Index * Exchange Rate / Entitlement ratio
*Entitlement ratio is a preset number by the issuer for calculation of a suitable value for a Zero Cert.Every Zero Cert may have its own Entitlement ratio, but the ratio of each individual Zero Cert will keep constant until maturity
**Exchange rate means the rate between the quotation currency of the underlying to Hong Kong Dollars (Amount of HKD per unit of quotation currency of the underlying)
Example 1：
The value of a Gold Zero Cert depends on gold price and the USD/HKD exchange rate:
| 16 Aug 07
| 14 Jan 08 |
| Gold spot price = USD 652.01
| Gold spot price = USD 904.13 |
| USD/HKD = 7.8168
| USD/HKD = 7.8047 |
|
For an entitlement ratio of 2500:
| Value of Zero Cert on 16 Aug 07:
| Value of Zero Cert on 14 Jan 08: |
| = 652.01 * 7.8168 / 2500
| = 904.13 * 7.8047 / 2500 |
| = 2.04
| = 2.82 |
Performance of the Gold Zero Cert from 16 Aug 07 to 14 Jan 08:
| Gold spot performance
| = (904.13 - 652.01) / 652.01
| = 38.7% |
| USD performance
| = (7.8047 - 7.8168) / 7.8168
| = -0.2% |
| Zero Cert performance
| = (2.82-2.04) / 2.04
| = 38.5% （=38.7% - 0.2%） |
Example 2：
The value of a NASDAQ 100 Zero Cert depends on NASDAQ 100 Index and the USD/HKD exchange rate:
| 10 Sep 07
| 30 Oct 08 |
| NASDAQ 100 = 1960.20
| NASDAQ 100 = 2207.61 |
| USD/HKD = 7.7808
| USD/HKD = 7.7501 |
|
For an entitlement ratio of 10000:
| Value of Zero Cert on 10 Sep 07:
| Value of Zero Cert on 30 Oct 07: |
| = 1960.20 * 7.7808 / 10000
| = 2207.61 * 7.7501 / 10000 |
| = 1.53
| = 1.71 |
Performance of the NASDAQ 100 Zero Cert from 10 Sep 07 to 30 Oct 07:
| Index spot performance
| = (2207.61–1960.20) / 1960.20
| = 12.6% |
| USD performance
| = (7.7501–7.7808) / 7.7808
| = -0.4% |
| Zero Cert performance
| = (1.71–1.53) / 1.53
| = 12.2% （=12.6%-0.4%） |
|
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