Exchange-traded funds (ETFs) are one of the greatest financial innovations in recent years. ETFs, which are essentially investment funds traded like other securities on securities exchange, much like stocks, have enjoyed remarkable success since being introduced in the 1980s. The global ETF industry, and its related products, is now estimated to have assets worth $2.6 trillion listed on 61 exchanges. Not to be left behind, Africa has steadily been growing its share in this burgeoning industry. Currently, there are six nations offering ETFs: South Africa, Botswana, Ghana, Nigeria, Egypt and Namibia. South Africa, a long-time leader in this area, has 34 ETFs ranging from those based on indexes to those based on commodities.
Kenya, through the Nairobi Securities Exchange (NSE), is seeking to become the latest entrant. In a bid to raise its profile, the Capital Markets Authority (CMA) of Kenya has been planning to launch the new product since July 2013. Partly aimed at attracting foreign investors, the expected launch comes at a time when the local equity market is increasingly attracting international investor interest. As the global markets become increasingly correlated, forcing portfolio managers around the world to become more familiar with frontier markets such as Kenya’s, it appears the new product is set to meet ready demand.
NSE’s Head of Market and Product Development, Donald Ouma, says that ETFs will be an affordable form of investment for retail investors as they give broad exposure to equities without having to spend a huge amount of cash. The new product promises to give investors the ability to track indices of various stocks spread out in various countries that would otherwise have been expensive or tricky to come by before.
Furthermore, ETFs are expected to improve liquidity of the overall market which currently spots turnover rates lower than 10%. The low fee structure also means benefits from the relatively lower expense ratios are passed to the investor. Locally, the average mutual fund charges an advertised management fee of 2%. The new product is also set to give easy access to alternative assets such as oil, gold and currencies. The latter could have come handy this year as the local currency lost nearly 5% of its value against the US dollar.
However, limited available exposure could leave potential growth opportunities out of reach of ETF investors. Since the NSE’s main index is still limited to a small number of stocks, ETF promoters may find it challenging to achieve a respectable scale. Another potential roadblock could be slow retail acceptance. According to the Ernst & Young, EY Global ETF Survey: 2015 and beyond, outside the US, the ETF industry’s biggest long-term challenge is low retail adoption. With no way around this, acceptance by retail investors will certainly take time to realize despite huge potential for retail growth. Nevertheless, the benefits outweigh the challenges.
In the initial years, I see Kenya’s ETF industry dominated by very large funds and issuers such as the FTSE Group. The latter, which already has two off-shore NSE-based tradable indexes; FTSE NSE Kenya 15 Index and FTSE NSE 25 Index, plans to list its FTSE-based indexes. South African group, Absa Capital, is said to be in talks with CMA and NSE to list its gold-backed ETF, the New Gold ETF. More large-scale issuers are likely to enter the market. Ultimately, this will strengthen the industry’s outlook by giving investors a broader choice of ETF promoters and product range.
Moving forward, as the growing wave of international interest continues to focus on markets like Kenya, certain key factors will be crucial to ensure the success of the new industry; price transparency, education, investor engagement, patience, liquidity and technology. If ETFs are to fulfil their undoubted potential for long-term growth, all the stakeholders need to ensure that these building blocks are in place. If this happens, then NSE-listed ETFs could easily revolutionize the securities markets in the region.