At 8.11am on Monday, 18 June 2007, a new asset class became available to ordinary South Africans. When the first currency future trade in South Africa was made it meant that for the first time they were no longer hostage to a wildly fluctuating rand. What this meant was that the JSE’s interest rate exchange, known as the Yield-X, had started trading in dollar/rand currency futures, and the private investor was able to participate. For the first time in South African financial markets, individuals are allowed to trade in the currency derivatives market – through a local regulated exchange. It has not yet caught on with the average investor – education alone is required, because these products are highly popular overseas.
While they have enormous implications for business and private investment, even someone planning an overseas trip might want to lock in the rand at the current value of R7,40/dollar, rather than live in trepidation that they may have to pay up to R11,35/dollar. For a relatively small fee, individuals can now fix the price of their foreign currency by buying a contract, giving certainty to the cost of the trip.
According to Richard de Roos, director, foreign exchange at Standard Bank’s Corporate and Investment Banking division, individuals may trade over and above their R4 million foreign allowance. They may also trade the sterling/rand and euro/rand exchange rates.Primarily, it is a new asset class for the private investor, allowing individuals to diversify their local and foreign assets. Heightened volatility has inspired local investor interest in currencies as an asset class.
What are currency futures?
Currency futures are derivative contracts, which allow investors to trade the underlying exchange rate for a period of time in the future, allowing individuals to hedge against currency risk and take a view on the movement of the underlying exchange rate. They are rand denominated and cash settled. Currency futures contracts result in a zero sum game – for every buyer there is a seller and the profits of the winner equal the losses of the loser. De Roos believes the new market offers private investors “another arrow in their quiver”.
“The private investor community and the rand are no strangers to each other. The offshore market has been participating for several years in the dollar/rand market. Now for the first time, South African investors can include currencies in their basket of investments, giving them a more diversified portfolio. International best practice is increasingly recognising currencies as an asset class in itself rather than merely a vehicle to transfer between other asset classes,” says De Roos.
The market is tailored for the private individual, but can also be used by asset managers and pension funds up to their 15% and 25% offshore allowances, and by corporates, provided they have prior approval to trade. De Roos says it is a market that will require education in currency futures. “It is the most liquid market in the world, and we will be spending a lot of time with our online share trading clients as well as the broker community through a series of nationwide seminars,” he says.
Rob Porter, Standard Bank Corporate and Investment Banking director and head of foreign exchange sales says there has been a greater uptake of these futures as investors have scrambled to diversify their holdings away from the rand. “There has been a realisation in favour of a diversified portfolio across currencies. This is something relatively new for the local investor who, because of exchange controls, could not previously do this. Increasingly, foreign exchange is becoming more than a tool for trade and capital flows, and is a standalone asset class in its own right, says Porter. “Pure currency holdings have a negative correlation with other asset classes,”
Although this contradicts what many asset managers argue, Porter points to the following: “When US equity markets were at their weakest, the dollar was at its strongest, so an investor just holding dollars would have considerably outperformed someone holding US equities prior to the bottom in March 2009. You can simply invest in the currency without taking on any additional equity risk.”
Currency volatility is stimulating interest. Last year, the rand was one of the world’s strongest currencies. The year before, it was one of the weakest. Timing is therefore critical to the forex market. In 2009, the rand strengthened 35% against the dollar, so an investor holding a money market forex forward call account would have also outperformed the money market in South Africa. “In response to this interest, Standard Bank has developed a number of forex investment-type products linked to the currency futures market. We were the first to launch these instruments in 2007, have recently launched a Principal Protected FX Note, and are in the process of developing other products to take to the South African investor community,” adds Porter.
Investec, RMB and Deutsche Bank are also involved in these products.