What’s the biggest challenge when entering emerging markets in Africa?
When Standard Bank moved into the Nigerian market, for example, the first question we needed to answer was, where do I get my portfolio from? We’ve had an active securities lending market in South Africa for roughly 20 years and sometimes we still have issues with liquidity there, so imagine what that’s like in places such as Nigeria—it’s hard. Standard Bank is still in the process of securing that portfolio and we’ve done some trading to make sure the infrastructure is in place.
At the same time, in a wider financial perspective, countries such as Nigeria have had a tough time with their overall economies. Nigeria has been an oil producing nation for more than 60 years and with the price of oil basically being cut in half it has been a very difficult period. It is also competing against all the other oil producers in the world, and is therefore vulnerable to seemingly unconnected events such as the lifting of economic sanctions in Iran (another oil dependent economy) last year, which has allowed it to compete in the global market again.
Despite the headwinds, Nigeria opened up its currency market in June last year and traded about $2 billion in two days, which was positive. However, there are still not enough US dollars in the market and as long as you can’t ensure that investors will be able to withdraw their funds when they need them, any capital market growth will be slow.
Are there any other African markets that are building their securities lending infrastructure?
We recently participated in creating Kenya’s securities lending regulation with the Kenyan Capital Market Authority. So far that’s proven to be very promising. Securities lending is such a key product in Africa because it can boost essential liquidity and allow participants to hedge risk when they are long.
What is Standard Bank looking to do in those markets?
Currently we have an investor services business in 14 African markets, where we have a physical local presence with offices and staff.
At the moment we are in the middle of launching a derivatives clearing business in Kenya. We have our licence and we will be the first clearing facility in that market. Our systems are in place and are currently being tested. The pressure is always on the derivatives market to manage risk through margining, so that’s kept us busy. We expect to go live with this product in Q1 or Q2 later this year. The regulators are very keen for us to launch and that provides us with good motivation to keep moving forward.
How closely do potential foreign investors and the regulators from these markets cooperate?
The fact that South Africa has a fairly developed securities lending market is hugely helpful. It allows us to host other regional regulators in our offices there and talk them through securities lending as a product. It creates a positive environment to discuss how it can help their own markets, with the South African market as the perfect example.
It’s always tough to be first, but when you’re in Nigeria or Kenya and you can point to a relatively local neighbour that does securities lending it’s a lot easier to have that conversation. It’s much easier to bring people on board with an existing African model than if we had to compare them to the European or North American markets.
Launching a fully developed securities lending product is, at a minimum, a two-to-three year project, but we are moving forward in several African markets. There are many legal frameworks that have to be in place domestically in areas such as insolvency, tax and reporting standards. It’s also essential to have the central securities depository on your side or it can be a much longer process. Overall, these markets are expanding, new products are going live and the regulators are supporting those who wish to invest.
Are you finding there’s specific model of lending that is easiest to bring to a new market?
When launching in a new market our credit risk appetite is conservative. From a collateral perspective, we start with cash, to settle the product, before moving on to other forms. It’s all about learning to walk before you can run. The basic product is scrip versus cash, because it can be executed very quickly. Scrip lent out also needs to be liquid in order to facilitate recalls.
Once you’ve secured a portfolio of local assets, the next major step is crafting your own internal processes, which largely relates to risk management. You have to know to what extent you are going to open the book. The answer to that has a lot to do with understanding the liquidity profile of the securities in question.
Even in South Africa there’s still lots to do when it comes to collateral. We’ve had a lot of success when dealing with the regulator in areas where new rules have inadvertently but negatively affected securities lending. We’ve been able to make tweaks to ensure that’s fixed.
If I looked at my book two years ago, then about 60 percent would be collateralised with cash, with the rest divided between bonds and equities. Today, cash is 20 percent.
Where the work needs to be done is in cross-currency collateral trades. Many people will have dollar accounts in South Africa but you can’t currently have collateral sitting in London for a borrow in South Africa, for example. The conversations that need to happen to add this level of sophistication are already underway.
In markets such as South Africa, where yields are relatively high, cash is an expensive form of collateral. Traders know what they need to do but there are also infrastructure changes required to make it happen and to adapt the methodology.
A lot of these steps involve the use of market data. How do you source data in developing markets?
We rely on our brokerage businesses, which trade actively on the market every day, to help give us a clear image of what that environment is like. We also rely on the exchanges. Once we collect that data we can then set our models to be as conservative as it needs to be.
There are a number of emerging securities lending markets around the globe. Is Africa sometimes overlooked?
Yes, and it’s up to us to create visibility for Africa. The South African equities market is 40 percent foreign owned and many of the banks and hedge funds that have African exposure do their trading indirectly via platforms in places like London. We are working to educate the wider market about the possibility of opening desks in South Africa, as the most developed African market, because there is a lot of yield opportunity.
We see the demand is there once we’ve shown people all that’s there already, and we’re growing.