It was not until December 2003, with the introduction of the Guidelines on Derivatives and Structured Products by the Malaysian Securities Commission, that principal-protected investment products were extended to high-net-worth individuals and corporate clients in Malaysia for minimum investments of RM1 million (US$265,000). Prior to that, derivatives could only be offered to clients of investment banks for hedging purposes, and even then it was restricted to liability management.
Then, in April last year, Malaysia's central bank, Bank Negara, reduced the minimum allowable investment from RM1 million to RM250,000. While this is still a sizeable amount of money, it has brought structured products closer to the retail level and encouraged product providers to widen their reach with new offerings.
"Structured investment products are now far more accessible to the retail customer than ever before," says Kuala Lumpur-based Gan Kok Kim, senior vice-president and head of treasury at OCBC Bank. "Through OCBC Bank's latest offering, we are recognising and anticipating the increasing sophistication of our customers."
And Kuala Lumpur-based Commerce International Merchant Bankers (CIMB) is keen to go one step further, by developing products with minimum investments levels below RM250,000. "We are currently discussing the possibility of attaching lower minimum investment levels to some of the new products we are planning to launch," explains Kok Kong Chin, head of equity markets and derivatives at CIMB. The bank will press the issue with Bank Negara, he says. "Other countries in the region have lower minimum investments so why not Malaysia?" he notes. In Singapore, for example, the minimum investment for structured products is S$10,000.
CIMB was the first investment bank to launch structured products following the release of the Securities Commission guidelines. It has been active in issuing range-accrual notes, and is now planning to launch its first equity-linked note for wide-scale distribution, although this is expected to be a domestic equity product.
Kok says the Malaysian structured products market is still in its infancy, but he expects a pick-up in product issuance during the third or fourth quarter of 2006. He says that demand for such products is definitely on the increase but it is the regulatory environment that will determine how quickly providers respond to customer demand.
The regulatory landscape
Since the 1997 Asian currency crisis, increasing concern on the part of East Asian governments over the role of highly leveraged funds in destabilising economies has forced some governments to tighten their grip by way of stricter regulations. This led the Malaysian government to introduce currency controls and adopt an extremely cautious stance towards regulating its domestic banking industry.
But, as part of Bank Negara's efforts to make the regulatory system more efficient and promote wider risk-management options, the central bank has been taking steps to liberalise the banking sector. With effect from April 2005, Bank Negara relaxed its rules on foreign investments and foreign exchange investment administration; offering greater flexibility for domestic fund management institutions to invest abroad and allow increased scope for Malaysian investors to enter into forward foreign exchange contracts with licensed onshore banks.
Following the liberalisation of the country's foreign exchange rules, Malaysian investors were allowed foreign currency exposure for the first time since 1997, and product providers have been quick to capitalise on these changes with the launch of foreign currency-linked products.
HSBC Bank (Malaysia) last year was one of the first banks to launch a range of FX-linked structured products. Its range consisted of Dual Currency, One-Touch, Double No-Touch, Range Binary and Single Binary.
"Together with HSBC's existing Ringgit-denominated structured investment products, investors now have the opportunity to enjoy potentially higher returns that can be linked to the performance of an entire spectrum of foreign exchange rates, interest rates and investment maturities," said John McGowan, treasurer at HSBC Bank (Malaysia). CIMB and Citibank (Malaysia) are also planning to follow suit with the issue of their own FX-linked range of structured products.
With Bank Negara's move to allow local investors to gain exposure to foreign markets, product providers are rushing to construct global products. At the end of November, OCBC Bank (Malaysia) launched the country's first China-play structured product linked to the FTSE/Xin Hua China 25 Index, which comprises the top 25 Chinese companies by market capitalisation. This is a five-year,100% principal-protected product with a minimum investment of RM250,000.
CIMB is also looking at rolling out foreign equity-linked products, which could be linked to Chinese, Japanese or US equities, Kok says.
The structured products market received a further boost when the Securities Commission allowed investors to invest on specified foreign exchanges recognised by Bursa Malaysia, the Malaysian Stock Exchange. This ruling came into effect on September 15, 2005.
Malaysia will move towards full liberalisation of the banking sector in 2007, when it allows foreign banks to infiltrate the market.
According to a statement made by Kuala Lumpur-based Datin Zarinah Anwar, deputy chief executive of the Securities Commission, both the Commission and Bank Negara recognise how instruments such as derivatives and structured products provide cost-effective risk management and hedging facilities to individual investors and corporate clients.
But the other motivation behind further liberalisation of banking rules is that Malaysia is at the forefront of developing Islamic finance, as Datin Anwar notes. "Structured products can provide a useful way of constructing many Islamic financial products and can facilitate further product innovation in the Islamic capital market," she said in a speech at the CIMB Conference on Derivatives and Structured products in Kuala Lumpur early last year.
Sharia-complaint structured products are increasingly popular in Malaysia's takaful (Islamic insurance) sector. In June last year, Mayban Takaful, one of only four government-authorised takaful operators in Malaysia, launched the Mayban Takaful Capital Protection fund, the country's first capital-protected Islamic life product. Meanwhile, HSBC Amanah Finance is looking at extending structured products into Malaysia's Islamic pension fund market, says New York-based Navid Goraya, the company's managing director and global head of Amanah Wealth Management.
On the institutional side, CIMB Islamic is developing sharia-compliant profit-rate-swaps as a risk-management tool for Malaysia's Islamic financial services industry, which is in need of short-term Islamic instruments to manage its long-term asset-liability needs. The product is currently under review by Bank Negara, says a spokesman at CIMB Islamic.
Room for improvement
Despite the efforts made by Bank Negara to develop Malaysia's structured products market, there is still more to do. CIMB's Kok says that Bank Negara remains concerned about levels of risk. "The financial engineering behind these products is often complex and can affect final returns in unexpected ways. So for investors it is crucial that they understand the factors which influence returns," says Datin Anwar.
In an effort to quell these fears, CIMB is investing in training its sales force, explains Kok. He says it is important that the sales force does not focus solely on yield enhancement when selling structured products; all the relevant risks associated with the product should be explained.