Leverage your return by investing in warrant

Warrant may sounds familiar to retail investors, but not all of them understand how it work & even what is it.

Warrant is a right, which can be traded, of buying something at a predetermined price & has an maturation date.

Consider a case, Mr. A wanna buy a RM 500k house from Mr.B because he think the house worth more than that. But Mr.A has a cashflow problem, he can't get 500k. Then he ask Mr.B to issue a warrant stating that "The owner of this warrant has the right to buy the house at RM 500k anytime in the future but within 5 years." Which means the warrant will be expired after 2 years. And Mr.B sell this warrant to Mr.A with the price of RM50k. 50k for nothing tangible just a right. 4 years later, the house now worth RM 1 mil. Bringing the warrant, Mr. A meet Mr.B, Mr. A wanna use the right of the warrant. Mr. B has to do as stated in the warrant, which is selling the 1mil-house to Mr. B (the warrant holder) at the price of 500k. If Mr.A sell it out instantly, he gain 500K, minus the cost of the warrant, net profit is RM 450k. 50k turn out to be 450k, a not-bad 900% return. Change the point of view, how much the warrant worth if Mr.C wanna buy the warrant from Mr.A? The house worth 1mil, to buy the house need 500k, thus the warrant worth 500k. That amounts a 1,000% increase in value.

So how can we leverage our return through warrant? Let read another case.
Mr A & Mr B has 500k on hand. The same house and the same warrant like previous case exist here, and assume there are a lot of house to be sold. Mr A use the 500k to buy 1 unit of the house, he own the house instantly. Mr B buy 10 units of the warrant of the house and pay 500k just for the right and he own no house. 4 years later, 0.5M house become 1M house. Mr A sell it out & gain 0.5M or a 100% return. Each warrant of the house now worth 0.5M, Mr B sell all 10 warrants out and get back 5M or a 1,000% return.

So why not everyone trading only warrant instead of the real thing? What is the risk?

Considere this, 5 years later, the house price drop to 450k. (assume both of them haven't sold their houses/warrants) Mr A can decide wanna sold the house out or not with a loss of 50k or 10% decrease in value. But how much the warrant worth now? To convert the warrant to house need 500k. So who on earth wanna buy a 450k house by paying 500k instead of buying the house straightaway by 450k. That means the warrant now worth nothing, & will never worth anything cause it is going to expire one day later, even thought 1 week later, it's going to worth 1M again, the warrant will be just expired. In this case, Mr B loss everything or a 100% decrease in value.

How it work in share market?
It works the same way. Say YTL Power now is trading at around RM2.15 and the warrant is trading around RM 0.94. The warrant has a conversion price of RM 1.21 & will be expired in 2018. Mr A buy 1000 units of YTL Power (we call it the mothershare) & paid 2150. Using the same amount of money, Mr B buy 2287 units of warrant. 1 year later, YTL Power increase its value by 20% or trading at 2.58, at that time its warrant will worth 1.370 ( 2.58- 1.21 = 1.370). Mr A sell it and gain 430 or 20% while Mr B sell his warrant & gain 983 or a 46% return.
That's how warrant can leverage your return in investment, the same share or the same company you invest in but different instrument you invest through the return is different. Besides that, just remember leverage your return at the same time also leverage your risk.

I bought YTL Power warrant when it was trading at 0.64 & its mother share was trading at 1.85. The price of both now is 0.96 & 2.15( around that) now. My investment in YTL Power has give me an increase in value of a perfect 50% while the mothershare only increase 16% in value.

There are more i wanna share in warrant, which will be covered in my following posts.

"While most people say YTL Power is a very slow moving share and it's only for old man, i get a 50% return on investment from it in 3 months"

The natural of Airline industry is always bumpy.

Somebody asked me AirAsia has been expanding very aggressive since its existing, so is it a good choice for investing? It is not that easy.

Undeniable, AirAsia is a legend in airline industry and people recognise AirAsia equal to low cost airline just as like Starbucks equal to coffee and Nike equal to shoe. Such a strong brand, that's the result of hard work by Tony Fernendes. Besides that, the management board is prominent in driving AirAsia to a continuously strong growth that make this once one-plane-but-lots-of-IOU(debt) airline company to today unstoppable airbus customer. However, just some point that investors have to take note before they get in any airline companies.

First unpredictable disaster make airline the first victim. H1N1, terrorist attack or event plane crash can shake the industry instantly without any prior notice. This kind of disaster can shake travellers' confidence in travelling that affecting sales of airline companies.

Fluctuation of oil price also fluctuate the income sheet of airline companies. Kerosene is the spirit of airline industry. That is a general knowledge to all, that is : plane need kerosene to fly, the margin of airlines' profit is highly depend on kerosene price just like food price affecting a restaureant's profit. Kerosene is priced around USD 20 more that the crude oil price, thus crude oil price is a proxy to kerosene price. Undeniable ( as i mentioned in previous post) the general crude oil price direction is upward ( as the general movement of CO supply is downward). Thus, airline companies' everyday work is to control the kerosene price they order. One of the normal pratice airlines are doint is to hedge the kerosene price, which means airlines fixed the price of kerosene they would like to buy at large amount for future utilization. As conclusion, airlines are always trying their best in controling the cost of operation, which is always increasing and determining how much of this cost is to be transferred to the clients. The case will be even more challenging for low cost airline, where the margin is natrutally low, rising of oil price cost will narrow their margin, which make the earning difficult to controlled well.

Forex risk is the next one. As airline is a international business where clients from all over the world accepting thir services by paying the price with their own currency. Thus, the income sheet of airlines is, again subjected to forex risk.

Financing problem make airlines at risk. Airline is a high capital business, where airlines always required tonnes of financing to keep their operation and also to expand their business like buying airplanes need a lot of capital. Any financing problem ( unable to receive financing) and changing interest rate push the beta of airlines higher. This is because increase of interest rate increase their cost of capital.

Economy downturn also make airlines business unpopular. Businessmen travelle less in bad economy condition as bussiness oppotunities are low.

Political factor is another thing investor has to put in to to-watch list. To successfully get approved of new route is not an easy job.

In conclusion, buy and hold is never the case for airline industry, investor has to aware of the factors they have to watch out. Any sudden change of condition on the factors i mentioned above can put airlines on a cautions list.

Anyway, if really i have to select an airline, i'd choose AirAsia, as their management are always prominent. They are brave, always be the first player rule out fuel charge & admin charge whenever they thing time allow. Economy downturn make low cost airline a first choice for distressed travellers. AirAsia's brand is so strong to make everyone can move.

YTL Power - a 10% cash machine, a low-risk investment and a stable capital gain player

YTL Power has been generous in giving out dividend to its shareholders. My parent have been holding YTL Power share and has been enjoying good dividend payout for decade. Every year, YTL Power pay dividend in form of cash dividend and share dividend (giving extra share unit to shareholders) Since 2004, she paid cash dividend of 10 to 12.50 sen per share every year. Besides cash dividend, she gives out share dividend which, generally accounts of around 5 % yield. Together, the YTL Power is a company famous for 10% yield, where you can earn income which is 10% from the current market value in 1 year. Or put it simple, if u have a 10% yield investment worth RM10, you get RM1 every year. Since 10% is 4 times higher than 2.5% rate of FD, it make the counter a perfect alternative to FD.

Will the company go bankruptcy or go into loss?

This is Uility Business, man!!! This is your safe haven!

Buy and hold strategy is out-dated, but this counter is different story. Utility business is always considered a safe haven to invest in, simply because utility business sell utility that every need no matter the global is in recession or in bullish time. Besides that, the demand for utility is generaly in a uptrend, because the world population is increasing, more people means higher demand of utility. More people need more energy, higher water treatment quantity, higher demand for telecommunicaton services and so on. Global economy is also generally growing, same case here, better demand better utility (energy, water treatment, telco...) demand.

The risk of failure of the business is much more smaller than an airplane crash as long as the pilot of the group is still Francis Yeoh, which has business management style alike his father, Tan Sei Dato' Seri Yeoh Tiong Lay. Where he seek for organic growth of the group and sustainable revenue stream, instead of a sudden one-time leap of profit. "You have to understand your business. We are a regulated business. We do not buy a business to sell it after 2 or 3 years to get the profit. We buy the business and make it the No 1 and let it generate revenue for us. We have license of our business for 100 years, that is why we issued bonds for 30 years, 50 years and we enjoy very low yield for our bond." That might not be the exact phase speaked by Francis Yeoh, but basically that is what he speak in the 2008 AGM that i attended. This show that, Francis Yeoh is not going to risk his business by buying a business that is unable to generate revenue or just want to show how big the company is. Of course, i understand that CEOs may not doing as if what they said, but Francis Yeoh has been showing his great integrity by managing the group as if what he promised. He bought Wessex Water and make it No 1 in UK in term of efficiency, he bought PowerSeraya Limited, Singapore 2nd largest power provider and announced it the day i attend the AGM, and the YTL Power, the first IPP in Malaysia selling power to TNB at the cheapest rate. YTL Power has been there for decades, and its share price is always has a low volatility, it is really a safe haven for investment, is suitable for investors targeting sustainable long-term growth and less volatility.

Safer & Better Dividend gain + Capital Gain

I bought YTL Power last year July at RM 1.77 by converting my FD to this investment. That was the worst time in the market, i have no idea on where to invest. I bought YTL Power as a buy-low strategy because the government just announced the windfall tax on power sector which cause investors' worried on power sector. YTL Power, the least affected-player dropped to below RM 1.70 level. At the moment i bought it i din really try to get in at a lower price, i just have a very simple thought, the dividend-yield is much more higher than FD, i just don't want to hold FD, i just hate the FD paper in my hands. Thus, i parked my capital on YTL Power in hope to get a better-than-FD income and never expect or trying to forecast the share price will go up at that market situation.

Since day 1 owing YTL Power till now i've received 3 times dividend which is 3.75, 4.5 and 3.75 sen respectively. Besides that, i also received a 40 to 1 share dividend which acounts for 2.5% return. If adding in the to-be-pay dividend of 3.75 sen in July, i received a total of
15.75 sen cash dividend per share, which is 8.9% of the price i bought at RM1.77. In addition to the share dividend, the total dividend return in 1 year is 11.4%. In another words, my investment has generated 11.4% income for me, definitely more than 4 times higher than what bank give me. If i didn't convert the investment on July, i'm still waiting July to come to earn that 2.5%.

Is the dividend sustainable?

Yes, i am confident that YTL Power will be continuously giving out dividend for the decades to come as if what she did. In fact, there are people who are much more concern on this, which is the YTL Group and the Yeoh family. YTL Power is the main stream of revenue to the whole YTL Group where 70% percent of YTL Group revenue come from YTL Power. Every dividend declared by YTL Power give a significant impact to the YTL Group Income Sheet and cashflow. You may not take it seriously if YTL Power declare dividend less than the last year by 1 sen, but for the YTL Group, 1 sen is significant enough for the group. I expect YTL Power have better dividend paying power in the coming years as the purchase of PowerSeraya has opened up a new income stream to this utility company.

I believe YTL Power will be giving out dividend more than 13sen from now on since the cashflow stream is larger than before. The strentening of Great British Pound and Australia Dollar will also help strentening the company balance sheet. At the closing price of RM 2.16 on 15 June 09, 13 sen dividend still reflects a 6% dividend yield. Please note that more than 70% of the revenue of YTL Power is contributed from oversee operation, which are from England, Australia, Singapore and Indonesia, thus the position of the currency from those countries have an effect on YTL Power balance sheet and year-end profit.

So, how great is a 10% cash machine? Imagine Mr.A own house worth RM 300k has a rental of RM 900/month which amounts to RM10,800/yr or a 3.6% rental yield. Mr.B own YTL Power stake with RM300k market value, 10% yield amounts an annual income of RM 30,000. Mr.B certainly own a better cash machine than Mr.A.