Guide for the More Experienced

After an investor buys a stock, he certainly hopes the stock price can rise continuously. But in reality, there may be a decrease in the price of any share. Therefore, the need to hedge against risks should also be taken into account in asset allocation and portfolio.

Like a warrant (see Warrant．Guide for the More Experienced: Hedging against Risks for details), CBBCs can also be used for hedging against risks. After buying stocks, an investor may consider buying CBBCs as a hedge if he is concerned about the possibility of a fall in the stock price. If the stock price rises as the investor expects, since the theoretical price of a bear is the difference between the exercise price and the spot price, the maximum loss is limited to the entire principal. However, if contrary to expectations the stock price drops, the price of the bear which features leverage rises, which can partially offset the loss caused by the drop in stock price, thus helping to reduce the loss of the whole investment portfolio.

If an investor wants to use bears for hedging, how many bears should he buy to hedge for the underlying assets he holds? The formula is as follows:

For example, say an investor holds 1,000 Ping An shares, and he wants to hedge for the whole investment. Using a 100:1 Ping An bear for hedging, the number of bears to be purchased is:

Note that when using bears to hedge for all the stockss held, in theory, the whole investment portfolio may not make a profit when the stock price goes down, because the profit and loss from the stocks and from the bears will offset against each other. However, in practice, investors will still need to take a view on the future direction of the market, whether optimistic or pessimistic, and use bears as a hedge for part of theportfolio, in order to reduce the risk of taking an incorrect view of the market.