Asia’s Increasing Importance To World Markets

Asia is continuing to catch the attention of investors, with the region’s GDP expected to overtake GDP for the rest of the world combined in 2020, according to the World Economic Forum. As Asia becomes an increasingly popular investment destination, its derivatives markets are also growing in importance.

The region already plays a significant role in global derivatives trading. The total number of futures and options traded worldwide rose by 13.7 percent in 2019 to reach a record of 34.47 billion contracts. Within this total, Asia-Pacific accounted for the largest volume by region at 14.49 billion contracts – accounting for 42 percent of global trading volumes, according to the Futures Industry Association (FIA).

Trading Volumes Increase In Asia

Given the region’s rapid development, trading volumes in Asia are on a strong upward trend. The number of futures and options traded on Asia-Pacific exchanges rose by 29.1 percent year-on-year in 2019, according to FIA figures. By contrast, trading activity in both North America and Europe declined, falling by 2.8 percent and 4.4 percent respectively.

In a recent survey by the International Swaps and Derivatives Association (ISDA), 74 percent of participants said they expected derivatives trading by Asian banks to increase over the next three to five years, while 35 percent expected an increase by US and European banks in Asia.

The study found that the most important factors driving growth in derivatives trading in Asia-Pacific were the depth and breadth of market infrastructure, a sound legal and regulatory framework, access to customers and counterparties and netting certainty. Transparency in derivatives markets is also increasing as regulators in Asia work to meet G20 commitments on trade reporting and the central clearing of derivatives made following the Global Financial Crisis.

Investors’ ongoing need to be able to respond to events quickly in volatile markets is expected to continue to drive demand for derivatives trading in Asia due to the limited overlap the region’s trading hours have with other markets.

In the past, trading costs in Asia have been higher than in other markets, which has affected returns. But in the more developed markets of Australia, Hong Kong, and Japan, trading costs are now converging with the U.S., as Asian investors benefit from a ripple effect following the European Union’s introduction of the Markets in Financial Instruments Directive. Meanwhile, there are significant margin efficiencies available from using futures compared with ETFs, which can result in an overall lower cost to trade the product.

Changing Trading Patterns

A range of factors is expected to drive changes in trading patterns going forward. With several major events on the horizon, such as the terms on which the UK will trade with the European Union following the Brexit transition, as well as uncertainty over the direction of interest rates, market volatility could increase. That is likely to drive demand for futures.

At the same time, rapid economic growth in Asia will lead to an increased need for derivatives and structured products within the region. Growing retail participation, particularly among high net-worth individuals, is also anticipated going forward. Futures offer this group a cost-effective way to manage portfolio risk as they look for more capital-efficient ways to trade.

In addition to managing risk, trading futures is becoming an increasingly popular investment vehicle for sophisticated, individual traders. Roadshows and other education efforts by derivatives exchanges have increased both awareness and understanding of derivatives among retail investors in Asia, with this group typically having a strong appetite for risk.

The trading patterns of Asian retail investors are also evolving, with derivative products now being used for diversification due to the low correlation they have to traditional equity and fixed-income securities.

Asian Hours Trading Around The Globe

Global exchanges offer depth and liquidity for Asian investors, but if they are to tap into growing demand from the region, they must recognize that investors want round-the-clock access and facilitate Asian trading hours.

Doing so is not only important to enable local investors to respond to events in their markets, but it also provides opportunities for investors located elsewhere in the world to trade when their markets are closed.

For example, after drones attacked Saudi Aramco oil-processing facilities on a Saturday last September, Asian markets were the first to open following the event. Trading in WTI futures and options when Asian markets reopened the following Monday were 200 percent and 270 percent higher respectively than average daily volumes.

Investors’ ongoing need to be able to respond to events quickly in volatile markets is expected to continue to drive demand for derivatives trading in Asia due to the limited overlap the region’s trading hours have with other markets.

It is a big reason why the trend of more derivatives trading in Asia is likely to continue.

Christopher Fix is a Singapore-based Managing Director and Head of  Asia-Pacific with CME group. This piece was first published by CME Group’s digital publication,  Open Markets.