Group Case Study 2: Equity-Linked Investment1;Company Background;Founded in 1933, Hang Seng Bank has principal business comprising retail banking and;wealth management, commercial banking, global banking and markets, and private banking.;It also offers a comprehensive range of renminbi services.;With origins dating back to the 1800s, Hutchison Whampoa Limited is a multi-national;conglomerate with operations spanning 56 countries worldwide. Its business activities;include ports and related services, telecommunications, property and hotels, rental and;manufacturing, and energy, infrastructure, finance and investments.;Equity Linked Investment;On 30 June 2014, the Hang Seng Bank issues a non-capital protected unlisted bull;equity-linked investment linked to the performance of the stock of Hutchison Whampoa;Limited. In other words, the payoff of the equity-linked investment depends on the stock;price performance of Hutchison Whampoa Limited.;An equity-linked investment is a structured product which can be unbundled into a straight;note and an embedded option. The terms and conditions of the equity-linked investment are;provided in the term sheet in Appendix 1.;Apart from the term sheet, the following information is collected;The yield on 40-day Exchange Fund Bills is 0.06%.;The short-term credit rating of Hang Seng Bank is P-1 and the yield on a note with a;similar credit rating is 0.26%.;The short-term credit rating of Hutchison Whampao is P-2 and the yield on a note with a;similar credit rating is 0.64%.;1;This case was written by M. K. Lai for the purpose of class discussion. While inspired by;real life situations, it is not intended to show either effective or ineffective handling of an;administrative issue. Copyright 2014 M. K. Lai.;1;Requirement;Consider on a per equity-linked investment basis. Your group is required to;(1) Explain the roles played by the following parties with respect to the equity-linked;investment;(a) the issuer;(b) the distributor;(c) the arrangers;(d) the registrar, and;(e) the calculation agent.;(2) Explain the following technical terms relating to the equity-linked investment;(a) the reference stock price;(b) the start/trade date;(c) the issue/payment date;(d) the issue price;(e) the nominal value;(f) the final stock price;(g) the final fixing date;(h) the maturity date, and;(i) the minimum investment amount.;(3) Consider the straight note component;(a) What is the nature of the underlying straight note, i.e. a fixed coupon straight note;or a zero-coupon straight note or a perpetual straight note? Explain your answer.;(b) Which is the appropriate yield for the underlying straight note, i.e. the yield on the;Exchange Fund Bill or the yield on a similar note to Hang Seng Bank or the yield;on a similar note to Hutchison Whampao Limited? Explain your answer.;(c) Calculate the price of the straight note.;(d) Discuss the impact of an increase in the interest rate on the price of the straight;note.;(4) Consider the embedded option component;(a) What is the underlying asset of the embedded option? Explain your answer.;(b) Is it a call option or a put option? Explain your answer.;(c) Who is the option holder and who is the option writer? Explain your answer.;(d) State the strike price of the embedded option.;(e) Is it a European option or an American option? Explain your answer.;(f) Under what circumstance is the embedded option likely to be exercised by the;option holder? Explain your answer.;(g) Other things being equal, explain whether the price and the yield of the;equity-linked investment are likely to be higher or lower than those of the straight;2;note.;(h) Calculate the implied price of the embedded option.;(i);Discuss the impact of an increase in the interest rate on the price of the embedded;option.;(5) Consider the equity-linked investment;(a) Calculate the issue price of the equity-linked investment.;(b) Calculate the maximum annualized rate of return of the equity-linked investment.;(c) Ignore the transaction costs and draw the profit and loss diagram of the;equity-linked investment.;(d) What is the maximum loss to an investor? What is the maximum profit to an;investor? Explain your answer.;(e) Calculate the break-even price to an investor.;(6) Consider the actual result of the equity-linked investment to an investor;(a) Find out the actual final stock price of Hutchinson Whampoa through the Internet.;(b) Based on the actual final stock price, calculate the profit and loss to the investor.;(c) Based on the actual final stock price, calculate the actual annualized rate of return;to the investor.;(d) Based on the actual final stock price, describe what happens if an investor elects;physical settlement upon maturity of the equity-linked investment.;(e) Based on the actual final stock price, describe what happens if an investor elects;cash settlement upon maturity of the equity-linked investment.;Submission of Group Case Study Report;Your group is required to submit a hardcopy of the report to the instructor at the beginning of;the class on the specified due date with the following structure;Font: Times New Roman;Font size: 12;Margin: 2.54 cm on each side;Spacing: single line;Format of Report;Cover Page (one page): give details of the course and the list of group members with full;names and student ID numbers;Executive Summary (one to two pages): give a summary of the report so that the;instructor can understand the main content in 5 minutes;Main Body (no more than 10 pages);Appendices (if applicable, no more than 10 pages): supporting documents, tables;figures, exhibits, etc.
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