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Using Daily Leverage Certificates (DLCs) In Volatile Stock Markets

In March, Alibaba’s share price increased 43% in just two days.


This article is sponsored by Société Générale, Singapore Branch. All views expressed in this article are the independent opinion of DollarsAndSense.sg based on our research. DollarsAndSense.sg is not liable for any financial losses that may arise from any transactions and readers are encouraged to do their own due diligence. You can view our full editorial policy here.

If you thought 2020 was as volatile a period as the financial markets could be, then 2022 would have been a surprise. Even as the global economy slowly recovers from the challenges posed by the ongoing COVID-19 pandemic, the war in Ukraine as well as the fear of impending interest rates hike has led to huge volatility in the financial markets.

For example, the Hang Seng TECH Index, an index that tracks the largest technology companies listed in Hong Kong, has fallen from 5,155.69 on 1 March to 3,472.42 by 15 March, or a decline of about 32% in just 15 days. As of 4 April 2022, prices have climbed back up to 4769.99, an increase of 37.3% since.

Of course, this volatility also extends to many individual stocks such as Tencent, Alibaba and Meituan.

For example, Alibaba saw its share price decline from HK$123 on 17 February to HK$71.25 on 15 March. Alibaba share price then stage a rebound, increasing to HK$102.00 on 17 March, or an increase of 43% in just two days. As of 8 April, prices are at HK$103.80.

Past performance is not indicative of future performance

If you are largely a Singapore-based investor, seeing such volatility in the financial markets may come as a surprise. After all, we don’t frequently see such drastic movements in the Singapore market. However, many major markets such as the U.S and Hong Kong are typically more volatile than what we may experience for stocks and ETFs on the Singapore Exchange (SGX).

Volatility – A Way For Investors To Capture Profit In The Short-Term

For long-term investors in the stock market, volatility is a by-product of investing that is unavoidable. While a good company, or an index-based ETF such as the Hang Seng Index (HSI) or the Straits Times Index (STI), may increase in value over the long-term, they are not immune to short-term price fluctuation. As an investor, navigating through the ups and downs of the market, with the expectation that prices will increase in the long-term, is something that we have to accept.

On the other hand, for investors with a short investment time horizon, volatility is what allows us to capture profits in the short term. The idea behind volatility is that the prices of assets can fluctuate in the short term, even if they end up being relatively stable in the longer term.

For example, if we look at the share price of Meituan (HKG: 3690), a Chinese super app, from 11 March to 17 March, we can see that prices have fluctuated from a low 104.40 HKD to 157.20 HKD during these 5-trading day period. An investor who successfully captured the price difference can make substantial profits, even without any leverage, in this short period of time.

Past performance is not indicative of future performance

Read Also: How To Start Trading Hong Kong Stocks On The SGX

The Use Of Leverage

When trading in the short term, leverage is often deployed to increase the size of an investor’s exposure. The use of leverage allows investors to increase their potential return on capital if prices move in the right direction for their trade.

One such product that is listed on the Singapore Exchange (SGX) that we can use for short-term trades is Daily Leverage Certificates (DLCs). Introduced in 2017 by Societe Generale, DLCs are a type of derivative that offers investors fixed daily leverage exposure to stocks or indexes that the DLC is tracking.

DLCs derive their value from the underlying asset(s) that they are tracking, as opposed to investing in the asset(s) itself. When we buy a DLC, we are exposed to the daily price change of the underlying asset(s) that the DLC is tracking.

DLCs Allow Us To Long Or Short The Market

One advantage of DLCs is that we can take either direction of the market, as opposed to just making money only when prices go up. If we think prices of a particular asset will increase, we can buy a long DLC. If we think prices are expected to decline, then we can buy a short DLC.

DLCs utilise leverage. For example, if we buy a Meituan 5X Long DLC and Meituan share price goes up by 10% for that day, our returns will be 50%, before costs and fees.

However, bear in mind that the returns offered by the DLC are designed such that it tracks the daily performance of the underlying asset. This means that if you buy and hold a DLC beyond one day, your returns may deviate from the 5x or 7x that the DLC is supposed to generate.

Underlying Returns DLC 5X DLC Returns

Initial

100.00

2.00

Day 1 105.00 5% 2.50

25%

Day 2 104.00 -1% 2.375

-5%

Final Returns 4%

18.75%

The information on this table page is for illustrative purposes only, and is not indicative of future performance. The DLC price and returns are before cost and fees.

From the illustration above, we can see that the DLC returns (after 2 days) isn’t 5 times higher than the actual returns of the asset. This is because DLCs are designed to capture fixed daily leverage exposure, rather than across multiple days. Thus, holding it beyond one day will see a compounding effect coming into play. That is not to say you cannot hold the DLC for more than a day. However, it is not recommended that you hold the DLC for months or even a year.

Similar To Gains, Losses Are Also Magnified

The use of leverage is a double-edged sword for investors. While our gains are higher if prices move in the right direction for our trades, losses are likewise magnified if prices move against us. For example, if we buy a 5X Long Meituan DLC (we think prices will go up) but prices instead fall by 10% for that day, our DLC will decline in value by 50%.

Unlike other leverage derivatives such as CFDs where an investor can potentially lose more than their initial investment, one advantage for DLC is that the maximum loss is capped at your initial investment sum. There are no margins involved when buying the DLCs and as such, there is no risk of a margin call. There is also an in-built intraday reset mechanism (“Airbag”) that reduces the actual exposure of the DLC to changes in the underlying asset in the case of a significant adverse movement in the underlying asset during the day.  Each DLC will have a predetermined trigger level where beyond a certain daily loss level, the intraday reset will occur.

More Efficient Use of your Capital

If you have a short-term bullish view of Tencent’s stock price movement for example and want to capitalise on this view, instead of buying the Tencent stock, you can also consider buying the Tencent Long DLC to deploy your capital more efficiently.

The minimum investment sum when buying the Tencent stock on Hong Kong Exchange is around HKD 40,000 (S$7,000) depending on Tencent stock price and that might be a large sum for a single transaction. This is where the Tencent Long DLCs, which are generally priced around S$1 and have a minimum lot size of 100 units, allows you to gain exposure to Tencent stock with as little as a couple of hundred dollars and you may even spread your investment capital over a few different transactions.

Instead of buying S$7,000 worth of Tencent stock, you can buy S$1,400 worth of Tencent Long DLCs to get the same S$7,000 exposure thanks to the 5x leverage. With a smaller capital outlay of S$1,400, your transaction costs will also be lower than if you were to buy the Tencent stock. The trading currency of all DLCs on the SGX is in SGD.

However, if you are looking to build a long-term exposure to Tencent, you would be better off buying the stock itself due to the overnight cost and fees that come with buying the Tencent DLCs. The overnight cost and fees that are factored into the DLCs’ price will erode your returns over time and this is why DLCs are not suitable to be bought and held for a long time.

Invest In Hong Kong Listed Companies Via DLCs On The SGX

Given the current high level of volatility in the Hong Kong Exchange, investors may be attracted to invest in some of the companies listed on the exchange.

The good news for Singapore-based investors is that there are plenty of DLCs that are already trading on the SGX that we can use to gain immediate exposure to some of the companies listed on the Hong Kong Exchange. These include individual stocks such as Alibaba, JD, Meituan, Tencent and many more. Alternatively, we can also consider Hong Kong indexes such as the Hang Seng Index (HSI), Hang Seng TECH Index (HSTECH) and the Hang Seng China Enterprises Index (HSCEI).

Offered by Societe Generale, investors can choose to buy a long or short DLC, depending on their views of the market across three different leverage levels 5 times (5X) or 7 times (7X).

Besides companies that are listed in Hong Kong, we can also buy DLCs that provide us with exposure to SGX-listed companies and indexes. These include popular stocks such as DBS, OCBC, Singtel, UOB as well as the MSCI Singapore (SiMSCI). You can find the full list of DLCs on the Societe Generale website.

In addition to Singapore and Hong Kong Markets, Societe Generale recently launched new 5x Long and Short DLCs on the S&P500 Index. Visit their dedicated webpage here to find out more about this exciting expansion.

Do note that DLCs are meant for sophisticated investors who want to trade actively and are keen on using leverage for their trades, so we are required to be SIP qualified before we can trade DLCs.

Read Also: What Is SIP Accreditation And Should You Get It?

Disclaimer

This advertisement has not been reviewed by the Monetary Authority of Singapore.

The views expressed under this article represent the personal and independent views of the author and do not constitute investment advice. The content of this article does not form part of any offer or invitation to buy or sell any daily leverage certificates (the “DLCs”), and nothing herein should be considered as financial advice or recommendation. The price may rise and fall in value rapidly and holders may lose all of their investment. Any past performance is not indicative of future performance. Investments in DLCs carry significant risks, please see dlc.socgen.com for further information and relevant risks. The DLCs are for specified investment products (SIP) qualified investors only.

Advertiser Message


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This advertisement has not been reviewed by the Monetary Authority of Singapore. The DLCs are for specified investment products (SIP) qualified investors only.