Derivatives market to remain challenged despite revamp, says expert

The changes will reduce some of the ‘bureaucratic’ aspects of trading, but it doesn’t enhance the appeal of the market’s underlying contracts


THE recent revamp and liberalisation measures made by Bursa Malaysia Bhd and easing of the currency regime by Bank Negara Malaysia (BNM) will remove some of the red-tape to trading in derivative contracts, but is unlikely to drive volumes as the changes do not enhance the appeal of the market’s underlying contracts. Last Wednesday, Bursa Malaysia revamped and liberalised the rules and directives for both Bursa Malaysia Derivatives Bhd (BMD) and Bursa Malaysia Derivatives Clearing Bhd (BMDC).

The changes came into effect on Aug 15 and are aimed at reducing the cost of doing business for trading and clearing participants, while allowing them to provide better services to their clients.

Pheim Asset Management Sdn Bhd CEO and CIO Leong Hoe Kit said the changes, while positive, do not directly enhance the appeal of the market’s underlying instruments.

“The changes are positive in that they will reduce some of the ‘bureaucratic’ aspects of trading in derivatives and Bursa Malaysia should be complimented for this,” he told The Malaysian Reserve.

“But it should not be forgotten that the attractiveness of the derivatives market is contingent upon the interest in the markets of the underlying instruments.”

The underlying contracts need to be attractive enough to international investors to significantly drive up the trading volumes of BMD, he said.

BMD has commodity, equity and financial contracts, but the bulk of trading is concentrated in the crude palm oil futures contract which makes up almost 80.8% of the total 1.23 million contracts traded on the exchange in July this year.

Foreign institutional funds have a strong presence in the market, making up 42% of the trade volume in July and play a key role in fuelling greater trading volume.

For the first half of 2019, trading revenue of BMD fell 14.1% year-on-year (YoY) to RM33.3 million on the lower number of contracts traded.

Average daily contract volume was down 9.9% YoY 49,351 contracts for the same period.

Malaysia prohibits offshore ringgit trading, including on the non-deliverable forward market and for futures trading — a consequence of the 1997-1999 Asian financial crisis as authorities moved to contain speculation and capital outflows in domestic financial markets.

But, this means there are currently no avenues for investors to hedge their risk when investing in Malaysian assets.

BNM last Friday liberalised its foreign-exchange regime now allowing non-resident treasury centres to hedge on behalf of their related entities upon a one-time registration with it.

The central bank now also allows non-resident treasury centres outside Malaysia freedom to hedge on behalf of their related entities in Malaysia and overseas via a licensed onshore bank or appointed overseas office (AOO) upon one-time registration with BNM.

Non-residents are now allowed to hedge on an anticipatory basis via an AOO for settlement of trade in goods and services.

Leong said the ban on offshore ringgit trading is not a direct obstacle for Malaysia’s derivatives market, but it does affect its appeal to investors. “To foreign investors, it affects the attractiveness of the markets of the underlying instruments,” he said.

“I tend to think the biggest challenge to uplift Malaysia’s derivatives market is still to first boost the attractiveness of Malaysia’s overall capital market, including the commodities market, which are the markets of the underlying assets of the derivatives market.”

Among the changes to BMD and BMDC are the introductions of various non face-to-face methods to verify a client’s identity when opening an account; removing the requirement for trading participants to maintain a voice logger for client orders; and allowing registered representatives to advise clients and conduct deals outside business premises.

Bursa Malaysia also lifted the prohibition against a dual licensee from becoming a proprietary day trader, affording greater flexibility for dual licensee holders dealing in both securities and derivatives.

Leong said this move will encourage higher participation from dual licensees in the different market sub-segments as it allows them to diversify their business activities and improvise their business models, provided that they are able to manage the attendant risks.

The local bourse also strengthened the governance framework for trading and clearing participants in BMD and BMDC.

This includes new requirements for risk management and internal audit functions, such as having the relevant committees overseeing these functions, and requiring the registration of a head of dealing in a trading participant’s front office.

In a statement last week, Bursa Malaysia noted the changes aim to enhance the attractiveness and competitiveness of the Malaysian derivatives market. “It is Bursa Malaysia’s hope through this revamp, the standards for conduct and governance of the participants (trading and clearing) will be elevated and consistent with the equities market, where appropriate,” it added.