SINGAPORE: For fiscal year 2019, the Singapore Exchange Limited (SGX) recorded its highest revenue since its listing in 2000, S$910 million.
It also bagged a net profit of S$391 million, its highest since 2008.
Based on these glowing results, one might conclude that all is fine and dandy for SGX. But a closer look suggests the Singapore bourse faces several strong headwinds.
The spreading novel coronavirus, which likely caused the record one-day drop of 1,190.95 points in the Dow Jones Industrial Average on Feb 27, has been getting all the attention.
Although SGX has allowed firms to delay annual general meetings given challenges with holding large meetings, the overall COVID-19 outbreak’s impact on SGX itself, if negative, is likely transient and detracts from the pertinent longer-term challenges that SGX faces.
READ: Commentary: COVID-19 - why stock prices plunged is absurd but markets could take bigger hammering soon
DIFFICULTY IN ATTRACTING LISTINGS
As the only stock exchange in Singapore, SGX has monopoly pricing power over the trading and clearing of its single-listed equity securities.
However, the market operator has struggled to attract listings. It has instead witnessed net delistings in seven of the last nine years, with the number of listed companies decreasing from 783 in 2010 to 723 in 2019.
SGX must be well aware of this trend. In an about-turn, SGX recently proposed to do away with the minimum trading price rule, which would prevent up to 53 firms on its watch-list from being delisted in June 2020.
Even homegrown companies are shunning SGX as a listing venue. Notable ones include Sea Group and Razer, which opted to list on the NYSE and the Hong Kong Exchange (HKEX), respectively. In spite of the ongoing unrest, Hong Kong continues to be the preferred listing destination for some Singapore-based firms, like CTR Holdings.
A main reason for listing elsewhere is the perception of better valuations, since businesses can raise more funds in IPOs or rights offerings in markets where stocks are valued at higher multiples.
Going public on the HKEX, for example, allows not only easier access to Chinese capital, which provides support for better valuations, but also a more visible presence in Greater China.
Among the companies that do list on the SGX, the average IPO proceeds has declined from S$380 million in 2010 to S$85 million in 2019.
The REITs sector appears to be the sole bright spot, accounting for 98 per cent of 2019 gross IPO proceeds.
The health of this sector can be mainly attributed to the favourable tax treatment Singapore REITs enjoy. Unlike Hong Kong REITs, which are taxed at corporate rates, Singapore REITs are tax-exempt provided they pay out at least 90 per cent of their income in dividends.
EQUITIES LIQUIDITY DRYING UP
Securities daily average traded value (SDAV) has fallen from S$1.5 billion in 2010 to S$1.14 billion in 2014, due in no small part to the 2013 penny stock scandal, which has affected investor confidence in the Singapore market.
The slide has since continued, albeit at a more moderate pace, to end the decade with an SDAV of S$1.04 billion.
This slower decline occurred after SGX introduced the Market Maker and Liquidity Provider Programme in June 2014, which suggests that the initiative has succeeded in partially arresting the decline.
Nonetheless, this initiative has come at a cost to SGX. The designated market makers and liquidity providers are given clearing fee rebates for their trouble, which effectively reduces the clearing fees SGX earns.
As an increasing proportion of trades are not full-fee trades, the average clearing fee has dropped from 3.10 basis points in 2014, just prior to the launch of the programme, to 2.66 basis points in 2019.
This decrease, which is largely due to greater participation from market makers and liquidity providers, is a sign that the Singapore equity market continues to be increasingly illiquid, which is why their intervention is needed.
The end result? A fairly persistent drop in SGX’s securities clearing revenue throughout the decade, from S$239.3 million in 2010 to S$138.9 million in 2019, reducing the contribution to SGX’s bottom line.
SOME SOLUTIONS YET TO BEAR FRUIT
There are no easy answers, but SGX has not been sitting idle in the face of these challenges. It has introduced a slew of measures to entice listings and to boost liquidity in its equity market, but some have yet to gain traction.
For instance, to appeal to start-ups with share structures that have unequal voting rights and to compete with HKEX, SGX has allowed firms with dual-class share structures to list on its mainboard, but there are no takers thus far, likely because it is not the pivotal consideration in prospective issuers’ listing decisions.
Against the backdrop of muted SDAVs, SGX offered daily leverage certificates (DLCs) in July 2017. These products magnify returns of an underlying stock or equity index, and because they are classified as securities, DLC trades would increase SDAVs.
However, although DLCs and structured warrants make up 6.21 per cent of SDAV in the second quarter of FY2018, this decreased to 3.19 per cent by the fourth quarter of FY2019.
Also, the average clearing fee is significantly lower for DLCs compared to that for cash equities, which implies smaller DLC revenue contribution for the same traded value.
EARLY DAYS FOR OTHERS
In addition, the market operator has recently abolished mandatory quarterly reporting, opting instead for a risk-based assessment as to which companies require such reporting.
This lowers compliance requirements, which are onerous and costly, but represents playing catch-up rather than conferring a competitive advantage, since companies listed on exchanges like HKEX and the Australian Securities Exchange are already not required to report quarterly.
Furthermore, removing mandatory quarterly reporting can inhibit price discovery since information is conveyed to the market in a less timely manner, which does not help a market that has seen dwindling traded values.
Yet another attempt to address these challenges is the introduction of the S$75 million Grant for Equity Market Singapore (GEMS) by the Monetary Authority of Singapore which, among other things, is intended to help issuers defray some of the initial listing expenses.
However, as the listing grant is only valid for three years, one can only hope that the big names that SGX successfully woos to list here will convince others to follow suit.
IMMINENT COMPETITION FOR POPULAR DERIVATIVE PRODUCT
With these challenges, how did SGX manage a record revenue for FY2019?
The average person may view SGX as a stock exchange but that was the SGX of 2010, when its securities business was its biggest revenue contributor at 46 per cent.
SGX has transformed itself over the last decade and today is more of a derivatives exchange, with this business segment making up 51 per cent of its 2019 revenues.
Although its derivatives revenue has increased significantly from S$131 million to S$459.7 million over this period, in the last five years, it has closely tracked the volume of a specific derivative contract — the FTSE China A50 Index futures, the most popular of its derivative offerings and accounts for 44 per cent of the number of derivative contracts traded in FY019.
It also happens to be the only US dollar-denominated futures offering that allows offshore access to the China A-share market, which comprises shares of Chinese companies listed on the Shanghai and Shenzhen stock exchanges and is increasingly represented in major indexes like the MSCI Emerging Markets Index.
SGX’s dominant position may be about to be challenged by the HKEX’s recent initiative to launch MSCI China A Index futures, which saw SGX’s stock price drop from S$8.02 to S$7.26 in the five trading days surrounding the announcement.
NOT ALL DOOM AND GLOOM
SGX’s multi-asset strategy has also allowed it to sufficiently diversify its revenue sources to offset the decline in its equities business.
In particular, the traded volumes of its iron ore and currency derivative contracts show promising growth.
Its diverse iron ore-related derivative offerings allow customers to trade the entire steel value chain and benefit from margin offsets, while its currency derivatives may continue to benefit from the rising convergence of over-the-counter and listed markets.
With SGX’s recent S$280 million acquisition of a 93 per cent stake in Scientific Beta, a smart beta index firm, the market operator is positioning itself to capture growth in this space as the shift towards passive investing continues.
Time will tell whether these moves will be enough for SGX to overcome the headwinds, but the company has reinvented itself before, and there is hope that it will be able to reinvent itself once again.
Dr Tan Eng Joo is senior lecturer at the Singapore University of Social Sciences’ Finance Programme.