Use and availability of derivatives in emerging markets are on the rise, despite derivatives' overall tarnished reputation.
"There has been an explosion of interest" in emerging markets derivatives and "significant growth" in their use, said Steven A. Schoenfeld, head of index/derivative products for the Emerging Markets Database of the International Finance Corp., Washington.
No hard figures could be obtained on the growth in the derivatives' use.
Last week, the IFC began daily, instead of weekly, dissemination of its more than 200 emerging markets indexes. As a result, market players can more easily use IFC indexes for pricing/structuring emerging markets swaps. (Morgan Stanley Capital International also provides daily information on its emerging markets indexes as does Baring Securities.)
Among international investors, swap transactions are more popular than locally listed futures or options contracts, Mr. Schoenfeld said. By using swaps, investors - particularly those trying to replicate an index - can gain easier access to otherwise hard-to-penetrate markets and often at less cost than buying underlying securities.
So far, much of the over-the-counter swap trading is in emerging markets debt instruments because of the interest in buying and selling Brady bonds.
Brokers that are, or are considering, using IFC indexes as a basis for emerging markets swaps include: Barclays de Zoete Wedd Securities, London; Merrill Lynch & Co., New York; and Goldman Sachs & Co., New York, said Mr. Schoenfeld. He said the IFC is in discussions with these three firms about providing a blanket license to carry out multiple derivatives transactions based on IFC indexes.
Among money managers, Boston's State Street Global Advisors already has undertaken some transactions in emerging markets derivatives.
"I use them occasionally, when it makes sense," said Robert Furdak, managing director at State Street Global. In the markets of Taiwan and Korea, he has used them to overcome restrictions to foreign ownership, and in India, he has used them to avoid the otherwise difficult settlement periods.
Although San Francisco's Wells Fargo Nikko Investment Advisors doesn't now use derivatives/swaps for emerging markets investing, "it's likely we will," said a spokeswoman.
Most of the OTC activity is occurring in the financial centers of London, New York and Hong Kong. So far, according to Mr. Schoenfeld, the Chicago Mercantile Exchange is the only exchange in the developed world that offers an emerging markets contract; Mexican peso futures trade at the Merc. However, a number of other exchanges around the world are planning products based on emerging markets, including the Chicago Board Options Exchange, the OM Exchange in London (the London branch of the Swedish futures exchange), the Hong Kong Futures Exchange, the Singapore International Monetary Exchange and FINEX, a division of the New York Cotton Exchange.
In the meantime, developing countries themselves are increasingly rolling out derivatives offerings. In Brazil, there is trading in interest rate futures, currency and gold futures, stock index futures and stock options. South Africa offers stock index futures and interest rates futures trading. The Philippines (besides commodities futures) has currency and interest rate futures; Hungary has currency, energy and stock index futures; China has bond futures, currency futures, interest rate futures and commodities futures; Russia offers interest rate and currency futures; and Slovakia offers overnight stock index futures and overnight stock options, said Mr. Schoenfeld.
Although the amounts traded on emerging markets futures and options are small, they have been growing.
For example, in terms of volume, Brazil's Bolsa Mercadorias & Futuros and the South African Futures Exchange are among the top 30 futures and options exchanges in the world.
And in this year's first half, the Brazilian exchange ranked third among the world's futures and options exchanges in trading volume.
Mr. Schoenfeld cites three reasons for the growing activity and interest: the spreading of financial technology around the world; "skyrocketing" interest in emerging markets investing in the past five years, which created the need for risk management tools; and the competitive desire by countries to devise investment instruments for their own market before foreign entities created them.