Types of Securities
This is the most heavily weighted technical topic on Paper 8, and the exam probes it product by product. You are expected to know the features, cash flows, risks and ranking of equities, debt instruments, pooled funds and derivatives, and to reason cleanly about how each behaves when prices or interest rates move.
Equity securities: ordinary and preference shares
An ordinary (common) share represents part-ownership of a company. It carries the right to vote at general meetings, the right to receive a variable dividend if declared, and a residual claim on assets that ranks last on a winding up, after all creditors and preference shareholders are paid. Because ordinary shareholders take the greatest risk, they also enjoy the uncapped upside. A preference share sits between debt and ordinary equity: it usually pays a fixed dividend, ranks ahead of ordinary shares for both dividends and capital, but carries limited or no voting rights. Paper 8 loves the sub-types. A cumulative preference share carries forward any missed dividend, which must be paid before ordinary holders receive anything; a participating preference share can receive an extra dividend on top of its fixed rate; a redeemable preference share can be bought back by the issuer at a set date or price; and a convertible preference share can be exchanged for ordinary shares. Dual-class or weighted voting rights (WVR) structures give founders shares with extra votes per share while outside investors hold one-vote shares. A blue-chip is simply a large, well-established, financially sound company; a growth stock reinvests earnings and pays little dividend, while an income stock pays a high, steady dividend.
Bonds and money-market debt
A bond is a tradable loan. The par (face) value is the amount repaid at maturity and the basis on which the coupon is calculated; the coupon rate is the fixed percentage of par paid as interest each year. Between coupon dates a buyer pays the seller accrued interest for the days since the last coupon. Key structural variants tested include: zero-coupon bonds, which pay no coupon and are issued at a deep discount, returning par at maturity; callable bonds, which the issuer can redeem early (usually when rates fall), capping the holder's upside; perpetual bonds, which have no maturity; floating-rate notes (FRNs), whose coupon resets against a reference rate so their price is far less rate-sensitive; convertible bonds, which can be exchanged for shares and so trade partly on the equity's prospects; subordinated debt, which ranks behind senior creditors on default; and secured bonds, which are backed by specific collateral. Credit ratings signal default risk: investment-grade issuers pay less; high-yield ('junk') bonds pay more to compensate for higher default risk. The money market handles short-term instruments (up to about one year): Treasury bills and Exchange Fund Bills, commercial paper (short-term unsecured corporate debt), and certificates of deposit (CDs) issued by banks.
Bond price and yield mechanics
The single most tested bond fact is the inverse relationship: when market interest rates rise, the price of an existing fixed-coupon bond falls, and vice versa, because its fixed coupon becomes relatively less (or more) attractive. Current yield is a quick income measure: annual coupon divided by current price. A bond with a 5% coupon (HK$5 per HK$100 of par) trading at HK$125 has a current yield of 5/125 = 4%; the same bond at HK$80 yields 5/80 = 6.25%; at HK$120 it yields 5/120 approximately 4.17%. Yield to maturity (YTM) is more complete: it is the single discount rate that equates all future coupons and the par repayment to the current price, so it captures both income and any pull-to-par capital gain or loss. From this follow three exam staples: a bond bought below par (at a discount) has a YTM above its coupon rate; a bond bought above par (at a premium) has a YTM below its coupon; and a bond trading exactly at par has coupon rate, current yield and YTM all equal. A higher credit rating, all else equal, means a lower yield.
Warrants, CBBCs and structured products
These leveraged, exchange-listed products appear frequently. An equity warrant gives the holder the right to subscribe for shares at a set price; a derivative (covered) warrant is issued by a financial institution rather than the underlying company. A call warrant profits if the underlying rises; a put warrant if it falls. Gearing measures leverage: the underlying's price divided by (warrant price times conversion ratio), showing how many times more exposure the warrant gives per dollar. The premium is the extra percentage the underlying must move for a holder to break even at expiry, and the conversion (entitlement) ratio is how many warrants convert into one share. Callable Bull/Bear Contracts (CBBCs) track an underlying almost one-for-one but carry a mandatory call event (MCE): a bull CBBC is called (terminated) if the underlying falls to the call price, a bear CBBC if it rises to the call price. Category N CBBCs have their call price equal to the strike (no residual value on a call), while Category R CBBCs may return a small residual amount. An equity-linked note (ELN) combines a deposit-like return with a written option on a share, so the investor earns enhanced yield but risks being forced to buy the share if it falls. The exam's recurring theme: structured products are complex, issuer-credit-dependent, and can expire worthless.
Collective investment schemes: funds, ETFs and REITs
Pooled vehicles let investors gain diversified exposure cheaply. An open-ended unit trust or mutual fund creates and cancels units on demand at net asset value (NAV) per unit, calculated as (assets minus liabilities) divided by units in issue; a fund holding HK$110 million of assets and HK$10 million of liabilities with 50 million units has an NAV of (110 - 10)/50 = HK$2.00 per unit. A closed-end fund issues a fixed number of shares that trade on an exchange and can sit at a premium or discount to NAV. An index fund aims simply to match a benchmark; a money-market fund holds short-dated, high-quality instruments for stability. An exchange-traded fund (ETF) is a listed, continuously traded pooled fund, usually tracking an index: a physical (full-replication) ETF actually holds the constituent securities, while a synthetic ETF uses swaps and so adds counterparty risk. Tracking error measures how far an ETF's return diverges from its benchmark. Leveraged and inverse (L&I) products amplify or reverse daily returns and are unsuitable for long holding because of daily compounding decay. Under Hong Kong's REIT regime, a listed REIT holds income-producing property and must distribute the bulk of its income (commonly at least 90%) to unitholders, with a cap on its gearing; confirm the current percentage and gearing limit against the latest SFC REIT Code, as these are revised over time.
Derivatives and margin financing
A derivative's value derives from an underlying asset. A futures contract is an exchange-traded, standardised, margined agreement to buy or sell an asset at a set price on a future date; going 'long' profits if the price rises. A forward is the over-the-counter equivalent, customisable but carrying counterparty risk and no daily margining. Options give rights, not obligations: a call gives the right to buy, a put the right to sell, at the strike price. A call is in-the-money when the underlying is above the strike; a put when it is below. The buyer's maximum loss is the premium paid, while the writer (seller) receives the premium but takes on potentially large obligations. American-style options can be exercised any time before expiry; European-style only at expiry. An interest-rate swap exchanges fixed for floating interest payments. A depositary receipt is a negotiable certificate representing shares in a foreign company, letting them trade on a local market. Finally, securities margin financing lets an investor borrow against pledged securities to buy more: leverage magnifies both gains and losses, and a fall in collateral value can trigger a margin call forcing the sale of the pledged stock, often at the worst possible time.
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In the HKSI LE Paper 8 (Securities) guide: 12 worked calculations set inside the 6 chapters, where the maths comes up. Practice here stays free.