EconomicMotivation

1.1GoldPriceAnalysis

Long-termtrend

2000

1600

1000

300

20052006200720082009201020112012

Short-termvolatility

1800

1700

1600

1500

2012.62012.72012.82012.92012.102012.112012.12

Investors’concern:eagertogainbenefitfromrisingtrendofgoldprice,however,how

tominimizetheriskcausedbypricevolatility?

GoldenFinger

1.2Marketing

1.Producthighlight

Priceupandhitsbarrier

Goldpriceincreases

Earlyredemptiontoenjoythehigh

returnimmediately.Noworriesaboutthegoldpricefallingdownlater.

Higherexpectedannualizedreturnthan3-yearrisk-freerate.Thebestcaseis

morethan200%forTrancheB.

Differentpreferences

price

Twotrancheswithdifferentreturnsandrisksprefences.

Golddecreases

Nomatterhowlowthegoldprice

becomes,principalguaranteedallthetime.

GoldenFinger

2.ComparisonbetweenOurProductandAlternatives

GoldenFinger

GoldBar

/Coin/Jewelry

GoldCertificate

GoldFutures

Minimuminvestmentthreshold

Low

Medium

Low

High

Costofstorageandtransfer

Low

High

Low

Low

Floorofpossibleloss

Yes

No

No

No

ProductDesign

2.1ProductDescription

GoldenFinger：anoptionbasednotewithfloatingdividendpayment.

ProductProfile

Gold-linkednoteReferredasGLNinthefollowing

Referenceasset:SpotGoldcontract(AU99.95),ShanghaiGoldExchange

Investmentperiod:3years

Facevalue:RMB1,000

Productspecification-(3-yearcontinuouscompoundingrisk-freerate4.5%)

TrancheA

TrancheB

Issueprice

1,000

1,100

PrincipleGuaranteeatmaturity

1,000(100%guaranteed)

1,000(90.91%guaranteed)

Option-baseddividendpaymentatredemption

70%*conditionalyieldonreferenceasset*1,000

130%*conditionalyieldonreferenceasset*1,000

Participationrate

70%

130%

Subscriptionfee(ofissueprice)

2.8%(28pernote)

4.0%(44pernote)

GoldenFinger

2.2Option-basedYield

ConditionalyieldandRedemptiondatedependonappreciationofunderlyingpriceandbarrierL.SetL/S0=1.25

Underlyingpricedidnothitthebarrierbeforematurity.

Conditionalyield

25%

0

K=S01.25S0

Conditionalyieldatmaturity

=Max(MinST/K?1,25%,0)

Underlyingpriceatmaturity

Conditionalyieldiscollaredwithin[0,25%]andproductceasesnaturally.

?FacevalueRMB1,000+option-baseddividendwillbesettledincash.

?Redemptiondate:Atyear3(Maturity)

GoldenFinger

2.3PrincipalGuarantee

Bearmarket

Underlyingpricedidnothitthebarrierbeforematurity

Underlyingprice

L=1.25S0

T

Time

Goldpricedecreases

Principalguarantee

Conditionalyieldatbearmarket=0%

NoDividendpayment

InBearmarket,GoldenFingerpromisesyoutogetatleasttheprincipalbackeventhoughunderlyingpricedecreases.

Redemptiondate:Atyear3(Maturity)

GoldenFinger

2.4EarlyRedemption

Volatilemarket

Underlyingpricehitthebarrierattimet

Underlyingprice

25%

5%

STime

tT

25%

Conditionalyieldatearlyredemption

=Minst/k?1,25%=25%

Earlyredemptionisexercisedoncehitthebarrieratanytimetbeforematurity

?Aclose-to-highestyield(25%)isrealizedonunderlyingratherthanalower5%appreciationatmaturity.

?Investorssuccessfullygetridoftheriskthatunderlyingpricefallsdownafteran

extremeincrease

GoldenFinger

2.5FlexibleSettlement

Volatilemarket

Underlyingpricehitthebarrierattimet

Underlyingprice

Cashsettlementifearlyredeemed

S

Time

25%

T

t

Plan1

DiscountedprincipalDividendpayment

Plan2

DividendpaymentPrincipal

GoldenFinger

2.6InvestmentReturn

3-yearrisk-freerate

4.50%

Redemptiondate

Spotgoldpricechange

TrancheA

TrancheB

Issuepriceca.

100%

Issuepriceca.

110%

Participationrate

70%

Participationrate

130%

Valueatredemption

AnnualInv.return

Valueatredemption

AnnualInv.return

Atmaturity(3year)

25%

117.5%

5.5227%

132.5%

6.3999%

15%

110.5%

3.3842%

119.5%

2.7997%

5%

103.5%

1.1533%

106.5%

-1.0721%

0%

100%

0.0%

100.0%

-3.1271%

-10%

100%

0.0%

100.0%

-3.1271%

Ifredeemedwithin

Spotgoldpricechange

Valueatredemption

Minimum

annualizedreturn

Valueatredemption

Minimum

annualizedreturn

2.5year

25%

115.3%

5.8685%

130.3%

7.0167%

2year

25%113.2%6.3926%128.2%7.9536%

25%111.1%7.2763%126.1%9.5400%

1.5year

1year

25%

109.1%

9.0730%

124.1%

12.7936%

0.5year

25%

107.1%

14.6605%

122.1%

23.1689%

0.25year

25%

106.1%

26.7213%

121.1%

46.8911%

0.1year

25%

105.5%

71.0774%

120.5%

149.1888%

Theearlierproductisredeemed,thehigherannualizedinvestmentreturnisrealized.

Investmentreturnisquitesensitivetotheearlyredemptionarrangement.

*Minimumannualizedreturnwithearlyredemptionisbasedondiscountedprincipalpayment.

GoldenFinger

2.7ARealCase

Spotgoldprice

400

Assume:

380

Aug.19,2011

360

340

320

300

280

Issuedate:Mar.1st,2011Spotprice:RMB302.13

OnAug.19,2011,spotgoldpricewouldhitthebarrierof377.66,leadingtoearlyredemption.

Annualizedreturn

PVoffacevalueRMB1,000

Dividendpayment

AB

15.2351%24.2581%

894.86894.86

175

325Time

GoldenFinger

PricingMethodology

3.1YieldDecomposition

Strikeprice,K=s0Spotgoldprice

Annualvolatilitymaturity

Continuouscompoundingrisk-freerate

Timetomaturity

KsσT

rτ

Assumption

1.Constantrisk-freeratewithhorizontaltermstructure.

2.SpotgoldpricereturnfollowsGBM,wherevolatilityσisaconstantterm.

dst=rstdt+σstdBt

GoldenFinger

0<t<Tsupst|0<t<T<L

Embeddedoption

1/so×up-and-outoption

(L?so)/so×one-touchdigitaloptionRisk-freenote

1000e?rτ1000

GoldenFinger

3.2PricingFormula

Priceof1unitup-and-outcall

Priceof1unitone-touchdigitaloption

Parameters

d1=lnS/k+r+0.5σ2τ/στ

d3=lnS/L+r+0.5σ2τ/στd4=d3?στ

d5=lnS/k?r?0.5σ2τ/στ

d7=lnSk/L2?r?0.5σ2τ/στd8=d7?στ

GoldenFinger

3.3OptionPricing

Embeddedoptionpricein1,000facevalueofGLN

?Dataperiod:2009-12-29to2012-12-26

?Estimatedannualizedvolatilityσ=17.01%

?GivenL=1.25S0&S0=K,Pisindependentofso.Embeddedoptionpriceatissuedate

P0=140.22

Sincer=4.5%andT=3

TrancheA

TrancheB

Issuedprice

1,000

1,100

TotalValue

972

1,056

PVoffacevalueatissuedate

873.72

873.72

EmbeddedOption(P?rate×P0)

98.28

182.28

Subscriptionfee(IssuePrice–TotalValue)

28(2.8%)

44(4.0%)

GoldenFinger

3.3OptionPricing

Embeddedoptionpricein1,000facevalueofGLN

?Dataperiod:2009-12-29to2012-12-26

?Estimatedannualizedvolatilityσ=17.01%

?GivenL=1.25S0&S0=K,Pisindependentofso.Embeddedoptionpriceatissuedate

P-rate×Embeddedoption

+Risk-freenoteprice

+Subscriptionfee

=Issueprice

TrancheA

TrancheB

Participationrate70%

130%

Subscriptionfee2.8%

4.0%

GoldenFinger

3.4ReturnSimulation

MonteCarlosimulation:100,000trials

Frequency

50.00%45.00%40.00%35.00%30.00%25.00%20.00%15.00%10.00% 5.00%0.00%

3-yearrisk-freerate

4.5%

Annualizedreturn

TrancheB33.20%5.88%29.37%22.09%5.97%2.11%0.74%0.36%0.14%0.06%0.03%0.02%0.03%

-3%0%10%20%30%40%50%60%70%80%90%100%>100%

TrancheA

0.00%

32.94%

49.57%

15.07%

1.99%

0.33%

0.07%

0.02%

0.01%

0.00%

0.00%

0.00%

0.00%

TrancheA

WorstcaseExpectedannualizedreturnBestcase

TrancheB

0.0000%5.5485%95.6677%

-3.1271%6.8062%223.0138%

(Earlyredeemedatday19)

*Simulationhereispurelydesignedforunderlyingpriceratherthanpricingproduct.Sincewecannotderiveanalyticalsolutionforjointprobabilityofhittingbarrier,MonteCarlosimulationseemstobethebestway.

GoldenFinger

3.4ReturnSimulation

MonteCarlosimulation:100,000trials

16%

14%

12%

10%

8%

6%

4%

2%

0%

15.170%

11.808%

8.561%

7.111%

6.558%

5.142%

0-0.5year0.5-1year1-1.5year1.5-2year2-2.5year2.5-3year

54.35%possibility

Ofearlyredemptionbeforematurity

?7.111%probabilitythatspotgoldpricehitthebarrier

?Ourproductisearlyredeemedbefore0.5year

?Nolessthan14.661%annualizedreturn

GoldenFinger

HedgingStrategy

4.1DeltaCalculation

For1unitofGoldenfinger

Embeddedoption

Delta

Deltadecomposition

GoldenFinger

4.2HedgingStrategy

Deltahedging

Hedginginstrument

3-yearzerocouponnote

Considergovernmentnoteasrisk-freeinstrumenttohedgeprincipalcomponent

TheGoldfuturecontractofeachmonth(rollover12monthseveryyear)

?Spotcontractclosespositioneveryday,resultinginlargetransactioncostsandvolumechanges.

?Theoretically,futurecontractispricedasFI=Ster

Priceoffuturecontract

Rebalance

Hedgingstrategy:Marktomarket320

ForeachunitofGLN,longΔe一r(TI一t)units300

offuturecontractsalongwith1unitnoteto280

hedgepricefluctuationofspotcontract.260

thepositioneveryday.240

220

*TIheredenotesmaturityofthefuturecontractofeachmonth

=Δe一r2/12/2910/03/2910/06/2910/09/2910/12/29

GoldenFinger

4.3NumericalExample

Assumenotransactioncost.Dailyinterestrateis0.01786%.

OptionPrice

Change

of?F

Futureprice

Futuresvalue

?

?F

Spotprice

Cum.CostDividend

2009/12/29

Issuedate

242.82241.88

140.22138.44

1.89761.8959

1.88721.8858

1.8872-0.0014

245.07242.55

322.2624321.9897

0.05760.0575

2009/12/30

462.4862457.4003

2009/12/31

243.80

248.00

150.07

1.9025

1.8927

0.0069

461.4299

323.7196

0.0578

2010/1/4

244.40

242.93

140.43

1.8978

1.8894

-0.0033

461.7608

322.9726

0.0577

2010/1/5

249.47

249.14

152.24

…

1.9025

…

1.8944

0.0050

472.5989

324.2894

0.0579

2011/3/1

296.00

299.79

243.89

1.6503

1.6462

-0.0059

487.2755

265.1202

0.0473

2011/3/2

300.00

302.13

247.73

1.6315

1.6277

-0.0185

488.3124

259.6197

0.0464

2011/3/3

300.00

301.7

247.03

1.6350

1.6315

0.0038

489.4412

260.7949

0.0466

2011/3/4

300.00

299.5

243.41

1.6526

1.6494

0.0179

494.8180

266.2182

0.0475

2011/3/7300.00304.1250.931.61551.6131-0.0362483.9432255.39100.0456

RedemptiondateIncomefromfuturestrading228.5522

L=303.525Dividendpaidfor1embeddedoption?250

Hedginglossfor1embeddedoption21.4778

Feecharged

28?

TrancheA

?Hedgingloss=Netprofitforissuer

..

TrancheB

70%×214778=RMB1299pernote

44?130%×21.4778=RMB16.12pernote

GoldenFinger

4.4Furtherdiscussion

Underlyingassumptionofhedgingstrategy

?Notransactioncost

?100%marginrequirement,noleverageeffect

Hedginginreality

?1stfuturecontract:nomorethan0.02%ofnominalamountastransactionfee

?15%~30%marginrequirementconditionedontimetomaturity

Dailyaveragetradingnominalamount

ChangeofΔF×futureprice=RMB1.7DailytransactioncostRMB0.00034

Negligibletransactioncostcomparedwithfluctuationoffutureprice

ProfitincreasesbyRMB10peroption

Dailyaveragevalueoffutures487

146

140.22

Marginaccount(30%×487)Premiumreceivedforoption

Almostnoneedofextraborrowing,

thuseliminateinterestcost

GoldenFinger

RiskAnalysis

5.1RiskforInvestors

Getthe25%now

Missbiggerprofit

Marketrisk

Goldprice

Goldprice

RateofReturn

Hitbarrierbeforematurity

St=barrierprice

25%

DoesnothitthebarrierIncreaseatmaturity

S0<St<L

(St-S0)/S0

Does