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Monday, August 30, 2021

Derivatives Idea - Bargain Hunting: Chinese Tech Stocks

تم إعداد هذا المنشور من قبل سنشري للاستشارات

Derivatives Idea - Bargain Hunting: Chinese...
Derivatives Idea : SPX Top Out in Cards? – Playing the 1 Month Volatility

*Trading in financial markets carries risk and can result in loss of capital
*This performance is only observed with historical backtests and not traded by the company

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The product and investment ideas do not consider the risk profile and financial position of the recipient and may not be suitable for everyone. Trading in financial markets and use of margin involves a significant risk of loss, which can exceed deposits. Please read the complete disclaimer carefully.
Risks & Assumptions
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Option prices and the corresponding pay-off are as of expiry & for representative purpose only. Going ahead, as the stock price moves in either direction, final pay-off will change accordingly.
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The assumption of receipt of initial coupon or the initial debit cost is based on the option premiums available at the time of structure creation. This may vary at the time of actual execution depending on the corresponding option prices and implied volatility.
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Numbers given below for the P & L are on gross basis (without considering any transaction charges.)
Rationale

Bargain Hunting in Chinese Tech Stocks - 6 Month Risk Reversals on Chinese Tech Stocks

Rationale

Chinese Tech stocks have had a wild ride over the past 10 month period. Tough policy actions by Chinese government meant to reduce their monopoly and power on the Chinese economy has seen top Chinese stocks dropping by more than 50 %. Chinese billionaire Jack Ma who was said to be the richest man in China has recorded a steep fall in his fortune within a span of one year. Jack Ma abruptly came under fire from the Chinese regime after he spoke against the financial regulators in a public speech in October last year. Alibaba & Baidu.com were slapped with record fines over their misreporting of prices along with other practices including false promotions and market monopolistic practices. This came after China’s top market regulator, the State Administration for Market Regulation, informed of investigating three platforms—Alibaba’s Tmall Supermarket, JD.com and Vipshop Holdings Ltd after receiving complaints from consumers. Delisting threat further saw even the popular Chinese names including Baidu to suffer a similar fate like its peers.

Is it worth catching the falling knife? All these 3 tech stocks are the market leaders in their respective segments. Baidu, Google of China, is a brand with the company providing other services also including personalized searches , video streaming & flash video apps. The company has made significant investments in its own AI & data analysis infrastructure to catch up with its western counterparts. Similarly, Alibaba continues to dominate the Chinese e-commerce markets with the Amazon of China still being the favored platform by its Chinese region-based users. The company enjoys several advantages including economies of scale & networking. JD.com is another Chinese tech stock that is expected to ride high in capitalizing the current online internet penetration in China that has grown to 25 % last year as compared to 6 % seen in 2012. The Chinese online retail market is expected to reach GMV of RMB 15 trillion by 2023 with a 10 % CAGR expected between 2020 to 2023.
The latest earnings confirm their market dominance Baidu's latest earnings for April-June quarter topped both on the top line as well as bottom line estimates. Baidu said Q2 revenue rose 20% from a year earlier to 31.35 billion yuan, or $4.85 billion, versus estimates of 30.9 billion yuan, which translates to roughly $4.635 billion. Baidu reported second-quarter earnings of $2.39 a share, up 15% from a year earlier, topping estimates of $2.07. Alibaba has kicked off fiscal 2022 with a better-than-expected start. Fiscal first-quarter revenue grew 34% year over year, driven by rising sales across its 1.2 billion-strong customer base. Adjusted EPS increased 12% year-over-year to $2.57, beating the Street’s estimate of $2.24. Global annual active consumers across the Alibaba Ecosystem reached 1.18 billion, an increase of 45 million from the March quarter, which includes 912 million consumers in China. Alibaba competitor JD.com reported earnings that defied the ongoing crack down by Chinese authorities. The company reported revenues of $39 billion, above expectations of $38.2 billion. It reported adjusted earnings of 45 cents a share, better than market expectations of 40 cents.
(Bloomberg Analyst Recommendations) Buy | Hold | Sell Alibaba - 45 | 3 | 1
BIDU - 38 | 6 | 2
JD.com - 48 | 2 | 1
Valuation wise, Chinese Tech Stocks look relatively cheap when compared to their American Counterparts
Trailing 12 M PE Forward 12 M PE
Baidu 18.93 16.91
Google 36.75 28.8
Alibaba 26.62 17.53
JD.com 80.53 50.3
Amazon 57.62 60.19
Using Risk Reversal for targetting further upside in the Chinese tech stocks

Using a risk reversal, the client can make use of any further dip in the share prices as an accumulation opportunity while at the same time also target the upside gains using buy call option. Furthermore, the structures are designed to be net credit i.e., coupon receiving ones. Even a scenario where the client does not want to take the delivery, the overall losses towards downside are reduced when compared to normal buy & hold positions. This is due to the lower strike put sell position.

In a worst case, should the prices drop below the lower put sell strike The client can take assignment in the stock for long term holding.
On the upside, should the price rally above the upper buy call strike The positive payoff starts happening.
Shorting of lower strike put option ensures That the overall breakeven is price is lowered as compared to normal buy & hold positions.
Statistics

Structure Statistics Summary

Underlying Expiry Structure View Exposure Size Last Price Structure Price Range Considered Lower Strike Put Short Upper Strike Call Long Coupon Received Breakeven Price Potential Max Profit Potential Max Loss Comparing with Long & Hold position (Position bought at last price), should the share prices drop down, the structure reduces losses by
$ BABA 18th March,2022 Bullish 1 Lot = 100 shares $171.70 $ 50 - $ 300 81.40% 119.19% 0.06% Above $139.9 $9,510 $(8,990) 16%
$ BIDU 18th March,2022 Bullish 1 Lot = 100 shares $155.08 $ 30 - $ 295 83.87% 119.35% 0.32% Above $129.5 $11,050 $(9,950) 15%
$ JD 18th March,2022 Bullish 1 Lot = 100 shares $75.22 $ 15 - $ 150 79.77% 126.30% 0.13% Above $59.9 $3,110 $(4,490) 18%

Datas Source: Bloomberg
Data & Prices as of : 24/08/2021 US Markets Close

Payoffs

$ BABA Risk Reversal Payoff

$ BIDU Risk Reversal Payoff

$ JD Risk Reversal Payoff

Comparison with Normal Long & Hold

$ BABA RR Comparison with Normal Long & Hold

Datas Source: Bloomberg
Data & Prices as of : 24/08/2021 US Markets Close

$ BIDU RR Comparison with Normal Long & Hold

Datas Source: Bloomberg
Data & Prices as of : 24/08/2021 US Markets Close

Chart : $ JD RR Comparison with Normal Long & Hold

Datas Source: Bloomberg
Data & Prices as of : 24/08/2021 US Markets Close

Risks and Assumptions for Back-tested trading strategies
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The risks and assumptions listed here are not intended to be an exhaustive summary of all the risks and assumptions involved.
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The strategy might suffer from look-ahead bias which occurs due to the use of information or data in a study or simulation that would not have been known or available during the period being analyzed. This can lead to inaccurate results in the study or simulation.
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Future price movements may not be exactly the same as the historical price movements and this could lead to variation in performance.
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Testing can sometimes lead to over-optimization. This is a condition where performance results are tuned so high to the past they are no longer as accurate in the future.
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The model assumes no slippages in trading. Slippage refers to the difference between the expected price of a trade and the price at which the trade is actually executed.
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Drawdowns in actual trading can be higher than the tested system and losses could be significant in the event of leverage.
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Unforeseen events can lead to variation in performance from the tested t rading strategy.
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The tested result has been computed with price feeds available from Bloomberg.
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The testing environment has not considered transaction or any other costs.
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Trading indicators used for the purpose of testing has been provided by Bloomberg.
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The strategy might suffer from data mining fallacy, selection bias and backfill bias.

Data Source: Bloomberg
Data & Prices as of: 24/08/2021

Arun Leslie John
Chief Market Analyst

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