Baidu Hedging Costs Soar on Competition: China Overnight

Options traders are paying the most in two years to protect against swings in Baidu Inc. relative to rival Inc. on concern rising costs and competition will erode profit for the owner of China’s biggest search engine.

Implied volatility, the key gauge of options prices, for one-month contracts closest to Baidu’s American depositary receipts was 5 points higher than that for Beijing-based Sohu Jan. 29, the widest gap since January 2011, data compiled by Bloomberg show. Both companies report fourth-quarter earnings today, and Baidu posted the smallest jump since the end of December last week. The Bloomberg China-US Equity Index of Chinese U.S.-listed shares rallied 1.4 percent.

While Sohu, which derives most of its income from online games, is expected to post 46 percent profit growth this year, Baidu’s net income will rise 24 percent, about half the pace of 2012, according to average analyst estimates for both stocks. Qihoo 360 Technology Co., a Beijing-based software developer that started a search engine in August, may siphon advertising from Baidu, hurting profitability as they spend more money luring mobile-phone Internet users, according to 86Research Ltd.

“Negative sentiment toward Baidu mainly comes from the competition with Qihoo,” Ming Zhao, founder of 86Research Ltd., the Beijing-based equity research firm, said in a phone interview Feb. 1. “Higher costs to offer search on mobile devices will hurt its profit margin.”

Search Traffic

Implied volatility for one-month options closest to Baidu’s ADRs has risen 18 percent from a Jan. 18 low to 45 Jan. 31, data compiled by Bloomberg show. During that time, implied volatility for Sohu advanced 7.7 percent to 42.

Baidu’s ADRs rose 0.3 percent to $108.61 Feb. 1, extending their weekly advance to 0.6 percent. The Bloomberg China-US gauge rose to 101 last week, led by Huaneng Power International Inc. and Yingli Green Energy Holding Co.

Beijing-based Baidu forecast Oct. 29 that fourth-quarter sales will be between 6.16 billion yuan ($987 million) to 6.35 billion yuan, short of the 6.41 billion-yuan average of 13 analysts’ estimates compiled by Bloomberg at the time. The ADRs have lost 4.6 percent since the guidance was issued.

Qihoo has picked up about 10 percent of China’s Internet search traffic, according to Internet consulting group iResearch, surpassing Sohu’s Sougou search engine. Qihoo, which also owns China’s most-used web browser, is teaming up with Google Inc. in online advertising, which may add $140 million in revenue this year, according to a Dec. 31 note from Wedge Partners Corp.

‘Downside Risks’

ADRs of Beijing-based Qihoo slid 4.7 percent last week to $30.50 after surging 89 percent in 2012.

Sohu, which also operates web search and video sites, slipped 0.1 percent last week to $49.22, for a 4 percent increase this year. The Beijing-based company may report today that net income declined 21 percent from a year earlier to $21.2 million, according to the average of seven analysts' estimates.

Huaneng Power, the largest electricity producer in China, soared 9 percent last week to $40.65, the steepest weekly gain since June 2012. The Beijing-based company said its 2012 net income will have risen more than 340 percent, according to a preliminary earnings statement issued to the Shanghai Stock Exchange Jan. 30.

Yingli Green, the world’s biggest silicon-based panel maker by capacity, climbed 5.9 percent last week to $3.05, extending its gain this year to 30 percent.

The Baoding, China-based company will see gross margin rise to as much as 20 percent this year should module prices rebound and production costs drop, Chief Financial Officer Bryan Li said in an interview Jan. 29.

Indexes Climb

The iShares FTSE China 25 Index Fund, the largest Chinese exchange-traded fund in the U.S., advanced 0.8 percent to $41.82, for a weekly gain of 1.8 percent. The Standard & Poor’s 500 Index rallied 1 percent to a five-year high of 1,513.17 on Feb. 1 as the Dow Jones Industrial Average rose above 14,000 after data showed the U.S. added jobs in January and manufacturing expanded.

The Bloomberg Chinese Reverse Mergers Index, which tracks a basket of companies that gained U.S. listings after buying firms that already trade, jumped 2 percent last week to 80.12, rising the most in three weeks.

The Hang Seng China Enterprises Index climbed 0.7 percent to 12,215.03 on Feb. 1, ending the week up 1.8 percent. The Shanghai Composite Index of domestic Chinese shares surged 1.4 percent to 2,419.02, gaining 5.6 percent in the week for the steepest rally since October 2011.

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