Derivatives as antidote for deepening stock market – New Telegraph Newspaper

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Developing the derivatives market will help to reduce the shallowness and lack of depth in the capital market, which has remained predominantly equities-driven. Chris Ugwu writes

Safe for the recent rally, since 2008, the Nigerian stock market has seen a reduction in its value by over 50 per cent. However, significant underlining progress has been made in terms of strengthening the process in the capital market. This development is essential because it helps the foundation and the platform on which investors rely on to make reliable judgments on their investments.

There have been arguments, though, to the effect that the NSE’s product offering has only reflected the domestic economy’s financing needs.

However, on account of the economy’s radically changing financing needs, including the recourse to the public private partnership (PPP) arrangement as a solution to the nation’s infrastructure dearth, finance experts are at the opinion that opportunities should now abound for a broadening of the exchange’s product offerings to include key derivative categories, expansion of listed mutual funds, index funds, among others.

In an effort to strengthen the Nigerian Stock Exchange (NSE) and make it compete favourably with other exchanges across the globe, some experts have in various fora called on the regulators to create more products that would deepen and inject liquidity into the market.
In pursuit of its drive to deepen the stock market, the NSE has said it would intensify efforts to create more products such as derivatives to offer investors other alternative investment platforms.

The efforts according to market watchers, will break the jinx of shallowness and lack of breadth as the market currently remained predominantly equities-driven with less than 30 per cent of listed equities actively traded.

Derivatives as boost market
First Vice President of The Nigerian Stock Exchange (NSE) Mr. Abimbola Ogunbanjo, has said that Nigeria’s Exchange Traded Derivatives (ETDs) will boost the nation’s stock market.
Ogunbanjo in a keynote address he delivered recently in Lagos on training on ‘Legal & Risk Aspect of Derivatives and Central Counterparty Clearing (CCP) Transactions’, said: We believe that Nigeria’s ETD initiative will eventually develop into a robust market place that can support our growth ambitions as a nation, using South Africa as an example of Africa’s first derivative market”.

He noted that South Africa’s derivatives market has grown rapidly in recent years, which has supported capital inflows and helped market participants to price, unbundle and transfer risk.

“Their market comprises two broad categories of derivatives, namely options and futures. Within these two categories, a wide range of instruments may be identified: warrants, equity futures and options, the agricultural commodity futures and options, interest rate futures and options, currency futures and fixed income derivatives,” he said.

“The fixed income derivatives are made up of bond futures, forward rate agreements (FRAs), vanilla swaps, and standard bond options. Notwithstanding the foregoing, South Africa has had to manage the risks associated with misuse of complex financial products via continuous improvement and enhanced enterprise risk frameworks. Accordingly, as innovation drives interest in any product, the market will require continuous advancement to risk frameworks, technology and critical thinking to bringing about competition which is a basic driver towards development and growth in the market”

Ogunbanjo noted that the concept of derivatives remains relatively novel in the Nigerian financial market space and has only been noticeable within the Over-The-Counter (OTC) segment of the market.
“The frontiers of the Nigerian financial market is expected to grow exponentially due to enhanced liquidity arising from the development of new and intricate financial instruments. Given the open and transparent financial market place the NSE offers to a wide range of domestic and international investors.”

Tinuade Awe, Executive Director, Regulation, NSE, noted that the frontier of the Nigerian financial market is expected to grow exponentially due to enhanced liquidity arising from the development of new and intricate financial instruments.
FBN Capital Limited, a subsidiary of FBN Holdings has also said that derivatives offer the potential for enhanced liquidity and increased funding solutions in the capital market.

This was part of the contributions made by the Head, Structured Products of FBN Capital, Mr. Michael Okon during a panel discussions at the inaugural edition of the Nigerian Structured Product Summit by the Capital Market Solicitors Association (CMSA), aimed at addressing the fundamental issues around structured products and derivatives in Nigeria.

According to Okon, existing financial securities coupled with derivatives could be used to address the needs of clients either for risk management, yield enhancements or funding purposes.
He said: “Due to the absence of a robust regulatory and legal framework to accommodate the peculiarities of derivatives in Nigeria, a majority of the transactions are still bilateral. However, as the market evolves and we have more market participants, we should see increased liquidity and price discovery, which will help develop the exchange traded market”.

The need to deepen the Stock Market and hence diversify it away from equities has informed the increase in products offering to derivative instruments. In addition to derivatives potential to generate income, the instrument can serve as hedge against certain exposures in the stock market. Other derivatives such as options and futures will create an alternative investment outlet for those who can assume risks that are greater than normal.

Stakeholders’ partnership with NSE
The Association of Stockbroking Houses of Nigeria (ASHON) recently signed a Memorandum of Understanding (MOU) with the NSE as it strengthened preparation for seamless take-off of the proposed Lagos Commodity and Futures Exchange, (LCFE).

The MoU, which was signed in Lagos by ASHON’s Chairman Mr. Patrick Ezeagu and The Exchange’s Chief Executive Officer, Mr Oscar Onyema, is aimed at creating professional and technical relationship between the two institutions for enhanced trading on commodities and futures.

Speaking after the signing ceremony, ASHON’S Chairman, Mr. Patrick Ezeagu, explained that the MoU would enable LCFE access the superior technological capacity of the NSE as the oldest Stock Exchange in Nigeria.

According to him, LCFE would hit the ground running once it is able to perfect the registration process with the Apex regulatory body –The securities and Exchange Commission. (SEC).

Commenting on the strategic objective of signing the MoU with the NSE, Ezeagu said the strategic objective of LCFE was to have a technical partner that has the technical competence to enable it commence trading immediately after the regulatory approval without setting up a new platform.

“What we have done is to tap on the existing capacity that is already at the Nigerian Stock Exchange so with that we cannot get it wrong.” he said.
Corroborating him, the NSE boss explained that the NSE was willing and well positioned to support capital market development and provide necessary expertise to other emerging exchanges around the continent.

Congratulating ASHON on the bold initiative, Onyema stated :”The Association of Stockbroking Houses of Nigeria has championed the establishment of the Lagos Commodity and Futures Exchange and this MoU that we signed today is an MoU that positioned the NSE to provide technology and other technical support to the Lagos Commodity Exchange.

“As you know, we do have a service that we use to provide such support for other emerging exchanges around the continent, given the expertise that we have developed over the years and so the significance is that we are supporting market development and we are providing expertise to make it easier and more cost effective for an exchange such as the Lagos Commodity exchange to hit the ground running” he said

Speaking after the signing, acting Chief Executive Officer of the proposed LCFE, Mr Akin Akeredolu-Ale, also reiterated the strategic position of the NSE in providing technical and technological support for the LCFE.

Last line

Derivatives are essential in markets with a significant low product to investor ratio such as the Nigerian Stock Exchange. However, the regulators and fund managers have key roles to play in ensuring the right products are introduced to the market and that product proliferation does not lead to investor abuse.

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