Handbook of Corporate Equity Derivatives and Equity Capital Markets

5

Hedging and Yield Enhancing Strategic Stakes

This chapter and the next one examine the management of strategic stakes. A strategic stake, also called a “concentrated stock position”, is a substantial equity position in a stock, usually taken with a long-term view. Strategic equity transactions can be implemented to enhance the acquisition, hedge, yield enhancement and disposal of a stake. In this chapter I will focus on the hedging and yield enhancement of strategic stakes. I will assume that the reader is already familiar with equity options, otherwise, I strongly recommend the reader to carefully read Chapter 1.

5.1 HEDGING A STRATEGIC STAKE

An investor owning a strategic stake is exposed to a decrease in its value. The simplest way to mitigate an exposure to the downside of a stock price is to sell the stake. However, an investor is often unable or unwilling to sell the stake. For example, an investor may have a strong commercial relationship with the company or may believe that the stock has attractive future prospects, or may want to avoid a substantial tax bill. This section covers the main strategies to protect a strategic stake.

Common Background Information

Let's assume that on 1 June 20X1, ABC Corporation (ABC) owned 40 million shares of XYZ. On that date XYZ stock was trading at EUR 10.00, and thus, the stake was worth EUR 400 million. ABC was worried about a potential large fall in XYZ's stock price. Figure 5.1 highlights the value of the stake as a function of XYZ's ...