Warrants to attract some attention


  • Business
  • Saturday, 18 Jan 2003

By Tee Lin Say

WITH all eyes on how high the benchmark Kuala Lumpur Composite Index (CI) can go and no one wanting to be left behind, investors are likely to focus on attractive undervalued warrants given that most of them offer a cheaper entry. 

“I believe that currently the CI is at the beginning of a rally, and therefore investors should position themselves with some attractive warrants in order to ride the second stage of the market cycle” says Prudential Unit Trust Bhd's Chief Investment Officer, Lynn Cheah. 

TA Securities analyst Phua Kwee Hock agrees: “The market is now experiencing a new year rally. It will probably reach the 680-685 level. Even with a pullback, I see the downside at the 653 level.” 

Analysts contacted by BizWeek were more than willing to disclose what they thought were good or undervalued warrants.  

With warrants costing only a fraction of the price of the mother share, they provide investors with a cheaper entry into the industry and also greater exposure to price movements of the mother shares. Theoretically, warrant prices rise and fall more steeply than shares in percentage terms. 

“Warrants are fantastic bull market instruments. In a good market, your percentage gains can be fantastic. There are so many parameters to value a warrant, you cannot look at it in isolation,” says OSK Investment Research Head of Research, Pankaj Kumar. 

Prudential's Cheah adds: “The biggest advantage of a warrant is the gearing aspect which amplifies the gain of the corresponding ordinary share. More bang per buck so to speak. Conversely, the loss potential is also greater. The risk in owning a warrant is inherently greater than the ordinary share,”  

While there are many measures used to judge the potential of a warrant, it is the nature and performance of the underlying mother share that is the key driver in selecting a warrant. Analysts feel that punters treat warrants like penny stocks. The warrant mantra is to buy low and sell high. That is perhaps why trading volume for warrants are better than the underlying mother share although mother shares are actually fundamentally stronger. 

TA's Phua is recommending UMW Holdings Bhd warrant, Gamuda Bhd WC, YTL Power International Bhd WA and Star Publications (M) Bhd warrant. “The price of UMW warrant has been lagging. The mother share recently went up, but the warrant still remains unchanged,” says Phua. 

UMW warrant is special because it is trading at a discount of about 2.3 per cent, unlike most of its counterparts that are trading at premiums. It is also in the money with an expiry in 2005. Its gearing of 5 times is another major attraction. The same goes for Star warrant which has a gearing of 4 times.  

As at Thursday, UMW warrant closed at RM1.68 while Star warrant closed at RM1.62. Phua has a fair value of RM1.84 and RM1.90 for the respective warrants. 

For Gamuda WC and YTL Power WA, Phua finds appeal in its long maturity. Gamuda expires in 2007 while YTL expires in 2010. As Gamuda only has a small conversion premium of around 2 per cent, the warrant can be considered a proxy to its mother share. A concern for YTL warrantis that the exercise price increases by 3 sen every year. Currently, the exercise price stands at RM2.87. 

As at Thursday, Gamuda WC closed at RM2.23 while YTL WA closed at RM1.40. Phua fair values the warrants at RM2.60 and 80 sen respectively. 

Cheah's recommendations are almost similar. They include Star warrants, YTL-WB, Gamuda-WC and Pernas International Holdings Bhd warrants.  

“The corresponding ordinary shares have to be fundamentally attractive. Hence, Star, YTL and Gamuda are compelling in valuation and are themselves “Buys” at the current levels. Secondly the premiums must be reasonable, less than 35 per cent with at least 2 years before maturity,” she says 

Recently, however, a growing chorus of analysts have resorted to looking at the capital fulcrum point (CFP) rate as a more accurate yardstick for warrants. CFP is an important factor where you can compare one warrant with another despite the difference in expiry. 

OSK Research reports that the CFP measures the annual percentage growth of the mother shares required to do equally well in terms of capital appreciation with either the mother share or the warrants. In other words, if the mother share's price were to appreciate at a faster rate than the CFP rate, the warrants would outperform the mother share. 

OSK Research has chosen a list of its fundamental warrants (see chart) which were selected based on the fundamentals of their respective mother shares. Most of them are trading “in the money“ and have low break even point (BEP) and CFP. BEP is the annual percentage gain on the mother share that a warrant holder would need to recover the current warrant price. 

A few examples of OSK's pick would include warrants such as Star, MTD Capital Bhd, UMW and IJM Corp Bhd. They are all trading in the money, apart from having low BEP and CFP rates. This suggests that they are priced attractively on the market. 

“Investors are in for big windfall gains as most of the fundamental warrants have upside potential twice the rate of the mother share,” says Pankaj.  

Some other warrants OSK Research picks are Audrey International (M) Bhd, WCT Engineering Bhd and YTL Corp Bhd. These warrants are selected based on a few stringent criterias such as trading at less than 30 per cent premium, CFP and BEP readings of less than 10 per cent and at least two more years to expiry (see chart). 

HLG Securities technical analyst Stephen Soo, however, is not encouraging in his outlook for warrants. Valuation wise, he feels that the mother shares are still performing better.  

“Most warrants have very high exercise prices. At the moment, there is more upside to the mother share. Confidence has to be restored first before we can start playing warrants.” says Soo. 

Nevertheless, with trading activities in the CI reaching almost 500 million shares and the momentum likely to continue for a while, it might not hurt investors to whet their appetites with trading gains from warrants. 

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