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SEC mulls derivative instruments

Help investors to hedge risk, encourage higher participation:

Sri Lanka’s markets regulator, the Securities and Exchange Commission (SEC), will create a strong derivative instruments market around shares prices on the Colombo bourse, with the assistance from Indian expertise.

Creating of a Central Clearing Corporation in Sri Lanka will also creat a strong capital market, as it is an important facet of having a strong market where the share trading is concerned.

“These will help investors hedge risk and encourage higher participation in the market”, Senior Fellow National Institute of Public Finance and Policy in India,” Ajay Shah said.

He said Sri Lanka has not yet explored its opportunities in the derivatives market, which could be increased 10 to 15 fold in the stock market trading especially in small deposits, if Sri Lanka introduces reforms to the market.

Because Sri Lanka’s capital market is stuck in one place due to the absence of a strong capital market, which could be helped to become a major financial hub in the region. The proposed report on reforms will be released shortly.Initially we can have the All share Price Index (ASPI) related futures and then we can roll out industry related indices,” says Shah referring to a popular type of derivatives (futures), which is an agreement to buy or sell an asset at a specified future date. Derivatives are financial instruments whose value changes responding to changes in underlying variables like stocks, bonds or commodity prices.

Shah said Sri Lanka is missing a lot of areas including intra-trading and tradings, Derivatives Market and capital opportunities like tea futures and rubber futures could be introduced to reap benefits, he said. Therefore, Sri Lanka could create a vibrant tea futures and rubber futures markets in the country. Creating of a Central Clearing Corporation in Sri Lanka will also creat a strong capital market, as it is an important facet of having a strong market where the share trading is concerned. It will create a strong and smooth function of trading in both ends i.e. buyer and seller side, he said.

This proposed Central Clearing Corporation will have to have a strong risk management system in line with other countries,’ he said.

“Large profits from a small capital outlay while on the other side investors use them to reduce risk of an unanticipated market movement. The SEC, which has commissioned a feasibility study on introducing derivative products from two Indian capital markets expects to introduce the product soon”.

“Index-based futures (tradable in the stock market) are usually a first step in introducing derivative products to emerging markets. You can have 6 to 7 indices and thereafter you can launch - depending on the strength of the market - individual stock related derivatives,” Shah said.

SEC- whose mandate includes the promotion and development of the securities market- is aware of the reputation derivatives have gained.

Sri Lanka have to get the platform ready like having the IT systems ready, ensure supervision is ready and ensure the margins and other requirements which address the risk aspects are in palace for derivatives, he said.

In 2006 the Asian Development Bank funded an Ernst & Young Malaysia consultancy to develop a Capital Markets Master Plan for Sri Lanka.

The proposed report also recommended that stockbrokers be allowed to introduce derivative products.

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