The Background of the Derivatives Market in Malaysia
The Malaysian derivative market has undergone various development to its present state since its establishment. Between 1980 and 1995, the market was dominated by or restricted to primarily the crude palm oil (CPO) futures. During this period, the CPO futures were being traded on the Kuala Lumpur Commodity Exchange (KLCE). With the passage of time, KLCE and the Financial Futures Exchange (KLOFFE) presently, Bursa Malaysia Derivative Berhad (BMD) were dominating in 1995 (Sadique and Silvapulle 2001).
The BMD is 75 percent owned subsidiary of Bursa Malaysia Berhad and 25 percent belonging to the CME. In May 1996, the Malaysia Monetary Exchange (MME) was established to provide the fixed income derivatives (FID). During this period, the FID was known as three-month KLIBOR futures contract. In 1998, the KLCE and MME became Commodity and Monetary Exchange of Malaysia (COMMEX).
In January 1999, the KLOFFE changed to the subsidiary of KLSE and in June 2001, KLOFFE merged with COMMEX to give rise to BMD. The BMD undertakes its operations under the close supervision of the SC. The Capital Market alongside the Services Act 2007 govern the BMD. BMD and Chicago Mercantile Exchange entered into a strategic partnership on September 17, 2009 (Sadique and Silvapulle 2001).
Presently, Malaysia has one derivative exchange called Bursa Malaysia Derivative Berhad (BMDB). The BMDB utilized to be called Malaysia Derivative Exchange (MDEX), but this has since been changed saves to Bursa demutualization. The BMDB started on 11 June 2001 following a merger between KLOFFE and COMMEX. Even though COMMEX was the older, KLOFFE remained the exchange that ushered first derivative of Malaysia.
Types of Derivatives Instruments Traded in Malaysia
The BMD Company is regulated by the Securities Commission Malaysia and operates an offshore centre called the Labuan International Financial Exchange (LFX) established in November 2010. The options and futures on the Kuala Lumpur Composite Index remain the largest component of the derivatives complex. The complex also comprise futures on crude oil palm, and crude palm oil kernel. The single-stock futures had also been launched in April 2006, and they are Shariah-compliant like crude palm oil futures (Sadique and Silvapulle 2001).
As mentioned above, BMDB remains the present Malaysian sole derivatives exchange. Provided its latest establishment, BMDB’s history is actually that of KLOFFE and COMMEX. BMDB currently trades an aggregate of 9 derivative contracts. Out of these 9 derivative contracts, 7 are financial derivatives while the residual derivative contracts account for commodity contracts. The mentioned seven financial contracts are as listed below.
- 10-year MGS Futures (FMGA
- Three-month KLIBOR futures (FKB3)
- Three-year MGS Futures (FMG3)
- Five-year MGS Futures (FMG5)
- KLCI Index Options (OKLI)
- KLCI Stock Index Futures (FKLI)
- Single Stock Future (SSF)
The KLCI Index Options (OKLI), KLCI Stock Index Futures (FKLI), and Single Stock Futures (SSF) are equity derivatives whereas the remaining 4 describe interest rate derivatives. The SSF are the latest entrant ushered at the end of April 2006. Of these nine derivative contracts on BMDB, the remaining 2 commodity contracts include:
- The Crude Palm Kernel Oil Futures Contracts
- The Crude Palm Oil Futures contracts.
The evolutionary cycle of derivatives exchanges in this economy has likely hit its eventual point following the BMDB establishment. Malaysia had only three derivative exchanges that were trading three contracts as late as 1998. The Malaysian economy currently has a single exchange providing all four existing contracts following various rounds of mergers. The contracts of BMDB are traded on separate platforms despite being absorbed by Bursa. They also required distinct licensing arrangement to permit the stock brokers to trade the derivative contracts (Sadique and Silvapulle 2001).
The Trading and Transactions of Derivatives Instrument Traded in Malaysia
The transaction mechanisms on derivative exchanges is categorized into 2 wide groups. These groups are the screen/computerized based method open-outcry or Auction approach. Via the open-outcry method of transacting has been factually the backbone of the exchanges. Nevertheless, the screen base or electronic (computerized) trading is currently fast acquiring prominence. Most of the newer exchanges are wholly screen based, and this has compelled historical exchanges like London and Chicago exchanges to embrace electronic-oriented systems. The BMD offers commodity and financial derivatives such as crude palm oil futures (FCPO) and USD crude palm oil futures (FUPO) for trade in the CME-Globe electronic trading platform.
Under the computerized or screen-based transaction and trading, the systems are anchored on a disturbed computer network. The client buys or sells orders rather than being channelled to a transaction floor. They are keyboarded in straight away into the committed terminuses in the offices of futures stockbrokers. The terminals are linked with the main frame CPU that serves as a matchmaker (Maurer 2002).
The limited finest bids (buy) together with offer (sell) prices are displayed by the terminals. For instance, the present 5 uppermost offer prices, as well as the 5 lowermost offer prices, will be exhibited concurrently at the terminals. After an offer price is equivalent or greater compared to the least offer price, a deal then goes successful.
Under the order steering or trade accomplishment, a customer who desires to trade derivatives first make a call to his futures agent (business). Subsequently, the representative of the stockbroker who answers the call then processes the order as well as time-stamps the order form then conveying on the material to the exchange floor. Upon hitting the booth of the business close to the interchange floor, the order form is further stamped and then conveyed to the appropriate transaction depths by the sprinters.
Under the open outcry, the trading is aided using shouting out orders as well as by use of hand signals based on palm and fingers (Fratzscher 2006). A trader who wants to sell signals his intention through palm centrifugally with the amount of protracted fingers indicating the geometric prices. A purchase gesture will be designated by the palm facing backward with the numbers for contracts' quantity as well as prices being signposted by protracted fingers.
The Prospect and Challenges Faced in this Malaysian Derivative Market
The commodity futures has been singled out to be a zone of the derivative exchange potential of finding backing in the pertinent Shariah proof (Kamali 1999). The reason is those futures as well as options which derive from commodities particularly food grains and agricultural commodities could be utilized for many beneficial commitments. The commodity futures in Malaysia could be utilized as hedging instruments which safeguard agriculturalists as well as the food production sectors in contrast to the price risks over the time.
Options and futures may as well be utilized in the concern of efficient and active planning by the marketplace stakeholders in both industrial and agricultural segments that could demand to have the safety of vending in advance rather than fronting the advertising at petite warning uncertainties particularly for the commodity which may solely be stowed over months instead of the years (Ameer 2009).
From the Shariah perspective, all of these would fall, inside the wide latitude of interest of the public or the maslahah that is acknowledged evidence as well as the basis of judgment in Shariah. Nevertheless, the maslahah’s validity in areas as well as matters that have resulted in controversy required to be discovered via valid Shariah evidence. This is the mainstream characteristic of the encounter faced in Malaysia regarding trading and transacting in derivatives.
Despite the important progress and prospects seen in the Malaysian derivative market over the years, the market faces substantial challenges that will dictate its ability to efficiently and effectively to meet the needs of its constituent in the coming years. The future funding as well as the local economy’s needs will call for a parallel development of the derivative market’s capacity to continue serving the constituents satisfactorily. This will particularly necessitate a close review of where the disparities as well as potential impediments to the process of development exist together with avenues for greater enhancement of value lies. The Malaysian derivative market has to remain cognizant of as well as exploit the advantage of alterations and opportunities within the global setting. Some of the primary issues and trends that the Malaysia has to address to sustain its derivative market while concurrently augmenting its role and efficiency in the long run include:
- Lingering impacts of the regional financial crisis
- Altering demands on the regulatory framework as well as authorities
- Discriminating global competition for investment and business
- Meeting the needs of the growing Malaysian economy
Ameer, R., 2009. Value-relevance of foreign-exchange and interest-rate derivatives disclosure: The case of Malaysian firms. The Journal of Risk Finance, 10(1), pp.78-90.
Fratzscher, O., 2006. Emerging Derivative Market in Asia. EAP Flagship on Asian Financial Market and Development.
Kamali, M.H., 1999. Prospects for an Islamic derivatives market in Malaysia. Thunderbird International Business Review, 41(4?5), pp.523-540.
Maurer, B., 2002. Repressed futures: financial derivatives' theological unconscious. Economy and society, 31(1), pp.15-36.
Othman, R. and Ameer, R., 2009. Market risk disclosure: evidence from Malaysian listed firms. Journal of Financial Regulation and compliance, 17(1), pp.57-69.
Sadique, S. and Silvapulle, P., 2001. Long?term memory in stock market returns: international evidence. International Journal of Finance & Economics, 6(1), pp.59-67.