Challenges of Setting Up Commodity or Derivatives Exchanges in Emerging Markets

WORLD EXCHANGE CONGRESS, 2013 FEBRUARY 13, 2013

GUOMAN TOWER HOTEL LONDON, UK

BY JEREMMY OKONJO CEO, AFRIDEX [email protected]

What are the main hurdles to overcome when setting up an emerging

market Commodities or derivatives exchange?

Experiences from Kenya and East Africa

BY JEREMMY OKONJO CEO, AFRIDEX

KENYAN SECURITIES INDUSTRY STATUS REPORT NSE INDICES:

ALL SHARE INDEX 109.23 pts 20 SHARE INDEX 4,633.48 pts FTSE NSE KENYA 15 INDEX 144.66 pts FTSE NSE KENYA 25 INDEX 148.20 pts FTSE NSE KENYA BOND INDEX 92.48 pts

OTHER TRADING STATISTICS

MARKET CAPITALIZATION 1,466.12 TRILLION

TOTAL SHARE TRADED 41,262,600.00 shares

EQUITY TURNOVER 983,871,176.00 Billion

TOTAL DEALS 1,667.00 1 I.P.O Several Share Splits

NEW MARKET DEVELOPMENTS

Introduction of Indexes by FTSE Development of Credit derivatives such as the

Kenya Bond FTSE Index NSE Index is at a 2-year high Anticipated derivatives products provide path to

diversification and risk management Hedge funds and trading houses setting up shop

in Nairobi, Kenya Introduction of the Growth Enterprise Market

Segment (GEMS) in 2013

POTENTIAL FOR A COMMODITY DERIVATIVES EXCHANGE Kenya’s agricultural sector accounts for 24% of annual GDP. 75% of Kenyans depend on agriculture 66% of manufacturing sector agro-based Sizable export market for coffee, tea, pyrethrum, horticulture Well-established agro-grain processing sub-sector: includes

maize, wheat, rice, sorghum, millet and barley among others

POTENTIAL FOR A FINANCIAL DERIVATIVES EXCHANGE

Kenya is an export-oriented market, requiring foreign exchange risk management

increased FDI capital inflows in Kenya (record $ 729 million in 2007, $ 133 million in 2010), requiring interest rate and foreign exchange risk management

Foreign investor inflows at NSE rose 130% to Kshs. 20 billion in 4th quarter of 2012

NSE ranked World’s 3rd best performer in 2012 Equities market participants in need of new asset

classes for investment

AFRIDEX MISSION AND OBJECTIVES

AFRIDEX is seeking to be a multi-asset transnational demutualized financial and commodity derivatives exchange based in Nairobi, Kenya, enabling the trading of financial and commodity derivatives across the African Continent and globally in a secure, regulated and transparent trading ecosystem.

OBJECTIVES OF THE PRESENTATION

Share AFRIDEX perspective on the challenges of exchange establishment and recommendations for overcoming them

Market Kenya and East Africa as a promising emerging market

Invite strategic engagement of stakeholders with complementary synergies and best practices

Defining Emerging Markets

This presentation adopts the country classification used by the International Finance Corporation (IFC) given that it is based on the level of development of a country´s stock markets.

The IFC classifies a stock market as emerging if it

meets at least two general criteria: (i) it is located in a low or middle-income economy as defined by the World Bank, (ii) its investable market capitalization is low relative to most recent GDP figures

SIGNIFICANCE OF EMERGING MARKETS IN GLOBAL DERIVATIVES TRADE

The establishment of derivatives exchanges in emerging markets has: Allowed market participants to access local

terminal markets. Lowered transaction costs, Enhanced the transfer of local information, Facilitated the geographical transfer of risk and

cross-border transactions.

RECENT TRENDS IN ESTABLISHMENT OF DERIVATIVES EXCHANGES IN EMERGING MARKETS

Consolidation of exchanges within and between countries, aimed to achieve higher efficiency and market depth, fostered by market globalization and communication technology improvements.

Cooperation between emerging market and developed market exchanges denoted by the signing of memoranda of understanding between exchanges in different countries which serve a variety of purposes including personnel training, sharing of internet-based trading platforms, and joint listing of products.

Preference for financial over commodity derivative products in the newly created exchanges in emerging markets contrasting with older exchanges, which usually started trading just commodities.

Exchange demutualization: the segregation of trading rights and membership rights allowing outside ownership of the exchange. This follows a world trend of demutualization in stock and derivatives exchanges.

FUNDAMENTALS FOR SETTING UP A COMMODITY DERIVATIVES EXCHANGE Presence of underlying spot market Price volatility in spot market Tradable volumes of production Export potential Market liberalization Liquidity Product homogeneity Infrastructure: transport, assaying, grading, sorting, packaging,

insurance, information technology, warehousing, Regulatory framework Education and training Market information dissemination Market support: government, private sector, civil society

CHALLENGES IN SETTING UP AN EMERGING MARKET COMMODITY DERIVATIVES EXCHANGE

Poorly developed spot market Agricultural market fragmentation Low, untradeable product volumes Predominant domestic markets Government intervention/food security concerns Absence of liquidity in contracts introduced to the exchange Lack of homogenous products Inadequate market infrastructure Sub-optimal regulatory framework: absent or too stringent Inadequate technical capacity Market support: political, government, business and civil society

RECOMMENDATIONS ON OVERCOMING CHALLENGES Poorly developed spot market: phased exchange development –

spot, forwards, futures. Market fragmentation (small-holders): cooperatives, hedging

purchasers, and financial institutions/trading houses Low, untradeable volumes: single national exchanges or regional

exchanges Predominant domestic markets: price risk management strategies Government intervention/food security concerns: interventionist

concerns through the exchange mechanisms, e.g. market-making by government agencies;

Absence of liquidity: sequencing of financial and commodity futures, and broadening of market participants; cross-listing, dual listing etc.

RECOMMENDATIONS ON OVERCOMING CHALLENGES

Lack of homogenous products: create new products of exchange-referenced quality

Inadequate market infrastructure: exchange establishment will mobilize public and private sector resources to gradually improve infrastructure; make use of government, private sector and civil society partnerships

Sub-optimal regulatory framework: private-sector driven legislative processes; self-regulation.

Inadequate technical capacity: education and training; MoUs with established, developed market exchanges.

Market support: government, private sector and civil society partnerships

The End ANY QUESTIONS? SUGGESTIONS?

CONTACTS: JEREMMY OKONJO

AFRICA FUTURES & DERIVATIVES EXCHANGE (AFRIDEX)

EMAIL: [email protected]

MWAGAMBO & OKONJO ADVOCATES VIEW PARK TOWERS, 20TH FLOOR

P.O. BOX 13724-00800 NAIROBI

EMAIL: [email protected] Tel No. +254 771 44 72 62

mailto:[email protected]

mailto:[email protected]

Challenges of Setting Up Commodity or Derivatives Exchanges in Emerging Markets

Economy & Finance

Transcript of Challenges of Setting Up Commodity or Derivatives Exchanges in Emerging Markets