Opening Address by Mrs Lim Hwee Hua, Minister of State for Finance and Transport, at the Singapore Investment Banking Association (SIBA) Inaugural Seminar on Equity Derivatives and Structured Products, 27 June 2006
Ladies and gentlemen,
1 I am pleased to have this opportunity to deliver the opening address at the inaugural Seminar on Equity Derivatives and Structured Products. I would like to commend the Singapore Investment Banking Association (SIBA) for their effort in organising today's event and in bringing together this large group of institutional investors, corporates and statutory boards to touch on a topic relatively new to most of us.
Realising the untapped potential of Singapore
2 In past few years, we have seen rapid growth in the equity derivatives market globally. Many of the derivatives exchanges in the world experienced above-average increases in trading activity in the last year. Various exchanges have seen the volume of exchange-traded derivative contracts traded grow by between 20 - 30% in the first half of 2006, compared to annual growth rates of about 5% in 2005. In particular, futures and options on equity indices have seen the largest growth as a sector, with some of the fastest growing equity index contracts being offered by Asian exchanges, such as the National Stock Exchange of India's futures on the Nifty Index and the Nikkei 225 futures offered by the Singapore Exchange. Of note, newer Asian markets such as India, Taiwan, China and Korea have sprung up to establish a strong footprint in the global derivatives market. For privately negotiated Over-The-Counter (OTC) deals, notional amounts of equity derivatives have also seen stellar increases - registering annual growth of almost 34% in 2005, compared with 28% in 2004 .
3 We have also seen similar trends in Singapore. From limited volume two years ago, the warrants market in Singapore has grown to be one of the largest in the world. In 2005, S$10.6 billion of premium value of warrants was traded on the Singapore Exchange . Similarly, our equity index futures market is also ranked among the largest in the world. Last year, it registered S$1.6 trillion in traded notional value, an increase of 49% from the previous year .
4 The rapid growth in derivatives volume is beyond mere numbers, but more significantly reflects a larger trend, that is the increasing acceptance of such products as a tool to better allocate and manage risks by a wider class of investors.
5 Against this backdrop, it was an opportune time that SIBA has taken the lead to look at ways in which Singapore is able to develop the equity derivatives and structured products markets further and develop our competitiveness as an equity derivatives hub. A taskforce was set up last year for this very purpose. It comprised a wide representation of industry players from both issuers and market intermediaries such as financial institutions and brokers, and also from the investment community.
6 The Taskforce has worked long and hard in reviewing the Singapore equity derivatives market and I am delighted to present today some of the key highlights of the Taskforce's recommendations. As noted by the Taskforce, Singapore has come a long way in terms of developing its equity derivatives and structured products markets. However, there remains much more untapped potential. To realise the full potential, the Taskforce has identified a three-pronged approach: firstly, to build a liquid international market here that is efficient, transparent and orderly; secondly, to establish Singapore as a centre for innovative products; and thirdly, to ensure long term sustainability where all market participants are informed.
(I) Building a liquid international market
7 Singapore is home to one of the largest asset management communities in Asia, managing in excess of S$600 billion of international funds. Our reputation as a safe and progressive financial centre, our record of political stability and macro-economic soundness, our well-established links, telecommunications network, and IT infrastructure has served us well in attracting a number of international investors and leading financial intermediaries to anchor themselves in Singapore.
8 As the asset management industry grows, there will be increasing needs for more sophisticated financial instruments to deliver the desired investment results. In doing so, many have turned towards including derivatives and structured products to execute part of their portfolio strategies.
9 Regulators have recognised this global trend. The European Union's UCITS framework allowed greater flexibility for fund managers to invest in derivatives as an asset class subject to safeguards. Since March 2005, the offer of such UCITS funds in Singapore has been allowed as part of our framework to recognise foreign funds. Just last month, the MAS issued a consultation paper proposing to extend this treatment to Singapore-constituted and managed funds. Allowing a fund manager to invest in derivatives as an asset class, in addition to their use for hedging and efficient portfolio management, will serve as a catalyst to grow the derivatives and structured products market in Singapore.
10 Asset management is not the only ready pool of funds for structured products here. Singapore is a leading private banking centre in Asia. There are a growing number of banks offering private banking services in Singapore. We are also an increasingly attractive centre for alternative investments and hedge funds. These private banks and alternative investment funds are likewise looking to more tailored solutions. In Asia, they have been among the primary drivers behind the growth in structured products. As the demand for structured products grows, there will be an increasing need for financial institutions who service private banks and hedge funds to establish their structuring teams closer to their clients. This would translate into increased demand for on-the-ground product trading and structuring expertise to be built up.
11 Retail investors may also find equity derivatives and structured products useful to obtain returns to meet their needs and risk preferences. When investing, retail investors generally require the disclosures and protection afforded by the availability of a prospectus, and it is especially important that retail investors be well informed when purchasing structured products, which may be complex.
12 However, we recognise that there are individuals who may not need the protection of a prospectus. Currently, MAS allows offers of investments to be made to individuals without a prospectus, if the individual has sufficient assets. The rationale is that such individuals would be in a position to take care of their own interests, because they possess the necessary financial sophistication or have the ability to hire professional advisors.
13 The SIBA taskforce has recommended expanding the range of investors to whom offers of investments may be made without a prospectus. I understand MAS is studying carefully whether to introduce an exemption from prospectus requirements based on the investor having prerequisite levels of financial expertise and knowledge, in other words, a "knowledge test". The rationale is that there may be individuals who may not have the prerequisite levels of assets stipulated under the present prospectus exemption, but nonetheless have sufficient knowledge and skill to invest in products without the need for a prospectus. In doing so, there is a need to strike the right balance between the requirement for full disclosure to retail customers with the enhanced flexibility to the industry to offer prospectus exempted products to those sophisticated enough to be able to access relevant information and look after their own interests.
14 Exchange traded funds (ETFs) are also an attractive structured product for the wider retail segment to access the capital markets. This is due to their low transaction and management fees, transparent investments and liquid benchmarks. There are nine ETFs on the Singapore Exchange. The most recent is the iShares MSCI India ETF, that was launched two weeks ago which is the first Indian index-linked ETF in the world.
15 The Indian ETF also demonstrates the regional nature of our markets. For example, derivatives on regional equity indices such as Nikkei 225 and MSCI Taiwan are amongst the most liquid contracts traded on the Singapore Exchange. The success of these products positions us as a gateway to the Asian markets and Singapore as a leading international financial and risk management centre.
(II) Establishing a centre for innovative products
16 The diversity and depth of investors in the equity derivatives and structured products markets will continue to grow. As demand increases, a greater variety of issuers will participate in the market. Corporations are finding structured products such as convertible instruments and hybrid securities useful means to raise capital. In addition, corporations in Singapore may also consider using equity derivatives as an alternative means to better manage their employee incentive program or realise value from their non-core investments.
17 The increase in demand will also mean that more creative and innovative products are developed to meet the specific risk-return outcomes that investors are looking for. The SIBA taskforce has has indicated interest in listing broader classes of innovative products on the SGX, in particular structured warrants on a broader range of underlying assets. I note that MAS and the Singapore Exchange are taking steps to facilitate the listing of structured warrants on foreign exchange, interest rates and commodities. This would complement structured warrants on shares and indices which are already listed.
18 The SIBA taskforce had also recommended that regulatory regime should treat investment products consistently and based on underlying risks rather than legal form. The investment community and our regulators recognise that it is important for the regulatory framework to accommodate product innovation. I understand that MAS will be studying further how our regulatory framework can be made more flexible to achieve alignment and accommodate product evolution.
19 In addition, time and costs play an important role in the success of a financial product. To this end, the Singapore Exchange has revised its listing fee structures for warrants with effective from 1 March 2006 as part of its effort to achieve flexibility and better reflect the value proposition for its members. In addition, Singapore Exchange is now able to issue eligibility to list (ETL) approvals for warrants within 24 hours, subject to the lodgement of a complete set of required documentation.
20 The above initiatives are but just some of the new steps that MAS and Singapore Exchange have taken in partnership with SIBA to grow the equity derivatives and structured products market in Singapore. Feedback on an ongoing basis provides the opportunity to better refine our market structures and regulatory treatment. Therefore, I am pleased to hear that SIBA has set up a derivative and structured product standing committee to implement their recommendations as well as to continue this dialogue to look at measures to improve the marketplace on an ongoing basis.
(III) Sustainability through informed decision making
20 Ultimately, the goal of any market is long-term sustainability. There is only one way to achieve this objective, through informed investors. Education is required to ensure informed investments in derivatives and structured products. In particular, education is crucial at all levels of industry, from financial institutions to corporates, from issuers to intermediaries, from larger investors to individual retail players.
21 For institutions, the lack of understanding of derivatives could lead to inadequate risk management systems which may result in losses and even in some cases, broader corporate failures. Various markets round the world have had their share of high profile incidents, and Singapore is no different. The collapse of Barings Bank over ten years ago was caused by trades done on the Japanese and Singapore futures exchanges which were unauthorised and concealed. Lack of good management understanding of more sophisticated instruments may have led to errant traders running up huge positions unchecked.
22 Like any financial instruments, derivatives and structured products are merely tools to enable an outcome. What is important is that the investor be aware of the outcome that was intended and establishes the framework and systems to address both the benefits and risks of investing in derivatives and structured products. In this respect, product education, knowledge of risk management and integrity of stakeholders are crucial in minimising the recurrence of undesirable events and failure amongst institutions dabbling with sophisticated financial instruments.
23 Whilst recognising that we will see a growing group of individual investors moving up the scale of investment savvy, we have to recognise that the vast majority of retail investors generally will still not have the requisite knowledge or skills to adequately understand equity derivatives. Unlike institutions, most investors could lack the expertise to decide whether to invest in such products. This is where it is important to recognise the role which our financial intermediaries play. Our banks, brokers and financial advisers are the primary contact points for retail investors and they need to provide a high standard of professional advice and importantly, ensure they comply with rules and regulation.
24 The representatives of these institutions have to ensure the risks of investing in equity derivatives and structured products are properly represented and sold to customers. As a step towards enhancing representatives knowledge of equity derivatives and structured products, the SIBA standing committee is working with the MAS and the Institute of Banking and Finance (IBF) to enhance knowledge of equity derivatives and structured products in the Capital Markets and Financial Advisory Services (CMFAS) Examination.
25 A broader based investor education campaign is also required to de-mystify and remedy misunderstandings and improve information flow about equity derivatives and structured products. I understand that the SIBA standing committee will be working with issuers, Singapore Exchange and other parties in providing more education programmes focusing on raising the level of understanding of structured products and equity derivatives, as these are increasingly being offered to the retail investor as well.
Creating a roadmap to growth
26 In conclusion, it is an important time in the development of the equity derivatives and structured products market. Growth has been significant but we have yet to realise the full potential of our markets. Building liquidity, innovation and sustainability are the next steps. To help fulfil this longer term potential, concrete steps have been taken both by the industry and regulatory authorities to set the platform for growth. However, the continued support and dialogue with all relevant stakeholders is required to maintain the momentum. As institutional investors or corporations which may be considering including equity derivatives or structured products in your investment portfolio, you, too, have a role to play in building your understanding of these products and contributing to the growth of this market.
27 I commend SIBA for taking the lead on the taskforce and also for organising this timely seminar. Let me congratulate SIBA and trust that you will find the forums and presentations after this address informative, productive and useful.
28 Thank you.