Published in This Day Newspaper September 02, 2014
TEMILOLUWA OSINOWO LL.B(HONS), B.L
In 2011, a South African company introduced to the Nigerian capital market a hitherto foreign financial product. This entry seemed to only be acknowledged by capital market players, and keen industry watchers, until recently. With the launch of two indigenous Exchange Traded Products to the Nigerian financial community, one can genuinely say that Exchange Traded Funds are the next big thing on the Nigerian capital market scene.
An Exchange Traded Fund (ETF) is a financial security that tracks an index, either in the form of a commodity or a basket of assets, but trades like normal shares on a stock exchange.
As defined in Rule 249b of the Securities and Exchange Commission (SEC) Rules 2011, it is
“an undertaking which could be a unit trust scheme; an open-ended investment company; or any other such structure as may be approved by the Commission, that issues unleveraged securities or units listed on a (recognized) Securities Exchange, (and) tracks the performance of a specified security or other assets which includes but is not limited to stocks, basket of assets, indices, commodity prices, foreign currency rates, or any other appropriate benchmark approved by the Commission from time to time.”
In simple terms, an ETF is an investment vehicle comprised of a selection of stocks, bonds, commodities, currencies, options. It can also come in the form of a blend of assets; a bundle which offers diversified exposure to a particular market area. Any shares bought represent a proportion of the whole bundle of assets comprising the particular ETF.
FEATURES OF AN ETF
In essence, an ETF operates like an ordinary stock, but affords investors the unique elements of a mutual fund, giving more value for money than most other securities.
An ETF has the advantage of being valued like a mutual fund, whilst being tradeable like a closed-end fund. By combining these two characteristics it is flexible, yet secure.
Exchange traded funds (ETFs) are one of the fastest growing instruments in the world with c.USD1.5 trillion in asset under management globally. (See paper delivered by Lotus Capital Halal Investments- “ETFs in Nigeria: Alternative Investment Vehicles to Diversify Portfolios and Increase Returns” 14th of August, 2014)
Some advantages of ETFs are;
- It provides a cost effective way of trading a basket of shares through a single transaction.
- It offers a market related performance or return.
- It allows for diversified exposure through buying a single share.
- It provides an opportunity for investors to track a market.
- It can be bought and sold rapidly in response to market movements.
On the flipside, some disadvantages of ETFs are;
- Prices are determined by market forces, so a buyer might buy at a slightly higher or lower price when compared to the net asset value.
- Some ETFs may not track widely accepted indices, which sometimes results in higher costs and higher risks.
HISTORY OF ETFs
Although some argue that ETFs originated in Canada, they became mainstream in the U.S. when in 1993 the U.S. Securities and Exchange Commission introduced the S&P Depository Receipts Trust Series 1. The request was initiated by the American Stock Exchange. The S&P Depository Receipts Trust Series 1 enjoyed swift and positive response in the marketplace, and before long became the first commercially successful ETF.
Europe followed suit when in 2000 the Dow Jones Euro STOXX 50 ETF and the Dow Jones Stoxx 50 LDRS ETFs were listed on the Deutsche Boerse. According to Mark Kennedy (an American ETF expert), by 2002 Europe had 106 domestic and foreign ETFs trading on the stock exchange. The U.S. followed closely behind with 102.
African countries such as Egypt and Botswana have also explored the ETF market. South Africa already has a developed ETF Market. In Nigeria, the ETF market is still at its infancy.
THE ETF MARKET IN NIGERIA
The Nigerian Stock Exchange (NSE) on the 19th of December, 2011 listed the New Gold Exchange Traded Fund. This type of ETF is commodity-based which allows investors to invest gold bullion.
On the 14th of March 2014 the second ETF Vetiva Griffin 30 Exchange Traded Fund (VG 30 ETF) was listed on the NSE. This is the first equity based ETF to be listed on the Nigerian Bourse.
The VG30 ETF tracks the NSE 30 Index, which is an index of the most capitalised and liquid stocks listed on the NSE, including banks, insurance, brewery, construction companies amongst others.
The NSE is to list the third ETF, the Lotus Halal Equity Exchange Traded Fund (LHETF) floated by Lotus Capital Limited. According to Lotus Capital, the LHETF will track the NSE-Lotus Islamic Index which is a market index currently comprising 15 Shari’ah compliant equities listed on the floors of the NSE. It is designed to attract Sharia/ethical investors to help boost Nigeria’s economy, particularly those from the Middle East looking for new investment opportunities.
It is important to point out that ETFs are not necessarily domiciled in the country where they are listed. For example, Global X Nigeria Index ETF, an ETF with 100% Nigerian holdings, was listed on the New York Stock Exchange in April 2013. It is one of the most accessible, pure, and cost-efficient ways for US retail investors to tap into the Sub-Saharan growth which more than helps boost our economy. Interestingly, less than 25% of the index is invested in oil and gas companies. The remainder is invested largely in banking (45%), consumer goods (25%), and cement (6%).
The ETF market in Nigeria has been growing significantly from 2011 to date and incoming cash-flow can be observed regularly. There are currently two Exchange Traded Products with a total market capitalisation of NGN3,379,400,000.00 as at June 30, 2014.
As Africa’s largest economy, Nigeria is fast becoming what is often described as “the next frontier” for foreign investment. Whist ETFs could play a huge role in harnessing Nigeria’s vast economic potential, it has been noted that a dearth of relevant, easily accessible data [on which the ETF market is highly dependent] is a major drawback; which explains why there are not more ETFs in the Nigerian capital market. Once this data gap is filled, ETFs are likely to flood the capital market and thereby add value to the economy.
ETFs have been branded in some quarters as a “derivative financial instrument meant for sophisticated investors” (Adonri, David 2012), and as such are more likely to form part of foreign rather than domestic investment. In view of the fact that ETFs give investors a convenient way to purchase a broad basket of securities in a single transaction; it is the writer’s opinion that local investors will jump on the ETF wagon once it takes off, and when they become more aware of its numerous advantages.
Like Debentures and Securitisation which have become a regular feature of the Nigerian capital market; once ETFs become widely accepted, it will be the job of lawyers to ensure that they are adapted to comply with local laws and country specific business nuances. Thus Capital Market Solicitors [as well as other capital market operators] stand to benefit tremendously from the ETF market.