What we can Possibly Do to Achieve “A Frontier Market Status” in 4 -Years

The Dar es Salaam Stock Exchange PLC (DSE) has recently undertook a Study on the enhancement of its existing products and services as well as introduction of new products and services in the stock market space – if this come to pass, we then would have migrated our local capital market from where we are into a “frontier market” category in a period of five years (note that we are currently not a rated market) and then possibly into an emerging market status within the next 15 years. During the stakeholders’ consultations forum, about a week ago I gave an opening remark – in my today’s article I would like to share parts of the excerpts of the remarks I gave:

Good morning everybody. Welcome to the DSE’s New Products Workshop. We are delighted to host this session and we thank you for dedicating a portion of your day to be here with us. Let me quickly cover two major items which we will learn its details in a moment:

  • The background to this project; and
  • Our intent of using Product Development to achieve Frontier Market status by 2020.

We now have 13 Licensed Dealing Members (LDMs), 5 Government Securities LDMs, 3 custodian banks, 25 listed equities, 4 outstanding corporate bonds, and a number of Government securities listed on the exchange worth about TZS 6.5 trillion. Our Annual Equity turnover averages TZS 500 billion while our equity market cap is about TZS 18 trillion (less than 20 percent of our GDP – the ratio far lower to many measures). Now, 2017 is poised to be even more vibrant in terms of depth and liquidity especially with the listing of telecoms and possibly mining companies IPOs (as the legislative requirements). In the economy at large, the Government is doing an excellent job to industrialize and enhance the infrastructure of the country and is simultaneously managing to lower interest rates from the highs we have seen in the recent past of 15 to 18 percent. In this context, the DSE felt that it was important to expand the range of products and services that are available to issuers, intermediaries and investors, whilst also taking a critical look at our existing products and services to ascertain how to make the existing market more efficient, with fewer friction costs. Today the DSE offers 9 billable products and services while the CSD has 5 products. The DSE also provides a number of services for free to the market, in the interests of supporting growth of the market e.g. reference and market data, IT infrastructure, etc.

During this study we have taken a close look at 28 products and services in total which collectively will enable the Government and Private Sector issuers to raise capital on a more focused basis. Therefore, in the primary markets instead of the DSE being a type of “delicatessen”, offering a few focused products for raising capital, it is proposed to significantly extend the types of listings to become like a “supermarket”. Our plans are extensive and we plan to explain them over the course of the day but if I may summarise some of the key points; we now have concrete plans to develop the following products:

  • Listing of Treasury Bills if the Government, CMSA and BoT decide to go ahead with its extremely innovative ideas for financial inclusion with the M-Akiba Micro-Savings Bills and Bonds. The DSE is truly supportive of this initiative as it will achieve financial inclusion and enhance financial literacy, attracting more capital from the informal economy into the formal economy through a relatively safe investment product across the mobile network infrastructure. The DSE has already attracted an extra 250,000 investors into the market through its limited forays with mobile – we expect that a Government backed product will achieve success on a much grander scale, increasing the overall liquidity of the economy.
  • Infrastructure and industrialization products (bonds and equity); these will provide the platform for the Government and the private sector to raise capital through the public markets. Many of these initiatives have strong economic propositions and lend themselves to being listed on the market, sharing the investment risk with the private sector.
  • Real estate investment trusts: with these, we envisage to support the significant property development, rental and social housing needs of the country. Whilst we have the framework for this product, international experience shows that this is critically dependent upon tax efficiency and the DSE plans to discuss the benefits of such proposals with the Ministry of Finance and Planning.
  • Municipal Bonds enabling cities or municipalities to take advantage of their legal ability to borrow and to ring fence certain developments into listed products that local and national investors would be willing to support
  • Depository Receipts: for those companies that have operations in Tanzania but are – the DPs are expected to create a secondary placement for such companies in our local market. But as you are aware, there are 7 companies listed on the exchange, whose primary listing is in London and Nairobi. This facility will enable these and others to cross list and trade their securities without necessarily having to issue more shares but with the added advantage of developing their brand and capital base locally. This may be particularly valuable for mining and natural resources based companies.
  • Then, there is a special and innovative product targeted at banks; given we already have 7 banks listed on the exchange — Negotiable Certificates of Deposits (NCDs), will enable these banks, if they so wish and others to lower their cost of capital while also extending their depositor base.
  • On the Pre-Enterprise Growth Market (EGM) listings — with a crowd funding solution becoming relatively common in other markets – we see the introduction of this platform targeting capital raising from high net worth individuals, will help fill a gap in the venture capital space for young SMEs and start-ups.
  • We also propose a range of fund types products – Exchange Traded Funds and Closed Ended Funds as well as Derivatives.

All of the above will initially be available in Tanzanian Shillings, but the DSE recognises the economic needs to support the Government’s plans to steadily achieve capital account liberalisation which will facilitate the possibility to offer these products in multiple currency, thereby recognising that Tanzania is operating in a cross border truly global world. This will in itself enable further extensions of the market , for example allowing Government to extend its M-Akiba Savings Bills and Bonds to a “Diaspora Bond” thereby helping our citizens to repatriate capital from abroad.

The secondary market will also see some transformations. As it is, Tanzania needs to adopt many international standards especially given the fact that the market is heavily (more than 70%) dependent upon foreign investors. Our current market structure has served its purpose of getting us off the ground, but now we need to catch up with modern methods; our goal being to make the price formation process on the market very much a “public good”, whereby we maximise liquidity at the lowest cost per transaction.

In our flagship product, the equity trading service, we believe a number of regulatory reforms are essential in order to improve the quality of the order book. From a distance, we all admire the successes of the ASEAN markets, Malaysia, Singapore, Thailand, Hong Kong and others. These markets require immediacy of order entry for all orders other than an exceptional few (such as large in scale and other specified exceptions). Today we have a regulatory requirement which is not robust enough in this aspect and consequently our market is less liquid. We also do not have a comprehensive regime for so called pre- and post-trade transparency, i.e. the specific rules for displaying orders and trades to the market. If we implement modern standards in these areas, investors will achieve must faster and better trade execution rates. With higher execution rates, intermediaries will become more robust and will be able to automate all standard orders through internet and other order management systems.

The key problem we have today is that we have 13 LDMs and therefore 13 markets instead of 13 LDMs supporting 1 central market. This is proven by the data – where 76% of our volume in 2016 was crossed within the LDMs. This scenario has happened for several reasons but the ASEAN markets for example, have found that much higher levels of liquidity and trading is achieved when all orders (other than those that genuinely qualify for exemptions) are submitted to a central limit order book operated by the exchange. Transparent markets are better markets. To stimulate this change, the DSE will explore the possibility of introducing incentives in its tariff structure that give benefits to the LDMs and investors that expose their liquidity, as this will also help us to have “market makers” albeit in an informal sense, given at present, this study concludes that Tanzania cannot implement formal market making until several significant changes are implemented. Market making is going to be essential especially for certain products such as covered warrants, exchange traded funds and even some of our core products. But to implement it, LDMs are going to need higher capital requirements, and the DSE is going to need to offer infrastructure for hybrid quote – i.e. order driven trading, supported by stock borrowing and lending as well as short selling. While this is being developed, we can create the effect of market making via tariff incentives.

There are many other product and service extensions; and, without delivering the whole conference in my opening remarks, I would like to move to explain the ramifications of this study. The developments proposed are significant and so we are all going to be very busy for the next few years but also the rewards will be beneficial, especially if these plans help to lower the cost of capital closer to developed economies standards. The question in front of us is how do we energize the industry to implementing this development programme. We believe we need a common goal and we feel that this common goal could be “to achieve Frontier Market status” by 2020.  The frontier, or pre-emerging equity markets are typically pursued by international investors seeking high, long-run return potential as well as low correlations with other markets. They represent developing countries with high rates of economic growth but small and relatively illiquid stock markets, often at an early stage of development. Equities listed in Frontier Markets have become increasingly investable, attracting investors looking to benefit from early-adopter status in an asset class that some participants believe has the potential to become a significant portion of the global equity opportunity set.

Our colleagues and competitors for international capital in Kenya, Mauritius, Morocco, Nigeria, Tunisia and the West Africa Economic and Monetary Union (WAEMU) are already classified as Frontier Market. We believe that with a co-ordinated plan, Tanzania can join this group. There are strict criteria to be classified as Frontier Market, as defined by the international index providers such S&P, FTSE Russell and MSCI. Tanzania already meets a number of them. We would therefore like the Government to make this an objective for the market, as it will drive the reform programmes, legal, operational, technological, capital and other processes and skills and in turn it will attract international investors, especially index investors to Tanzania. The spin off effects will be significant – for instance, if we can create more sustainable liquidity, we stand the chance of listing ETFs or some of the derivative products we have designed in the study. Longer term, say by 2030, this will place us on a path to become Emerging Market where the DSE really becomes a significant engine of economic development of our economy. We would join countries like Qatar, Dubai, Pakistan and Poland, once we have implemented the next set of reforms and grown the size and depth of the market. I hope you will also believe that this is both possible and essential, especially if we are to provide a vibrant economy for the next generation of Tanzanians.

I will not take any more of your time, but hope you will enjoy the session. We thank you for coming and showing your continued interest in the market and for all the support you have provided during this consultation.

Thank you and May God Bless Us.

Challenges and Opportunity in Raising Funds for Infrastructure Development

Raising funds for infrastructure development is difficult, not only to us but in many African economies. The experience may be different among and between countries, i.e. the process being slightly easier to others, but difficult to many. For instance, countries such as South Africa, Nigeria, Botswana, Mauritius, and Ethiopia are said to have made some significant progress, relative to others, in developing their infrastructure financing framework (i.e. regulatory environment, financing availability, capacity to get deals done, etc). On the other side, much as Tanzania has the necessary regulatory environment and has sufficient economic opportunity to be attractive to investors in infrastructure development, but it lacks financial availability and has limited capacity of public and private sector to get infrastructure deals done. This is according to the recent report by the Africa Finance Corporation and the Boston Consulting Group, the report titled: Infrastructure Financing in Sub-Saharan Africa — Best Practice from Ten Years in the Field, dated May 2017.

So, there has been some progress in some countries, the report says, however further financing innovations are needed. Much as financing is not the only obstacle in infrastructure development i.e.  relevant policies and timely execution capacity are also fundamental; however in this article, the focus is on the financing aspect.

Tanzania, like in many African countries faces a significant infrastructure deficit, statistics reveal that more than two-thirds of Tanzanians have no access to power, and that reliable road access rate as well as access to clean water is still less than 30 percent, compared with 50 per cent in other parts of the developing world. It is further estimated that we lose between 1.5 percent and 2 percent of our GDP annually due to inadequate infrastructure—a circumstance that is daunting but correctable, through appropriate investment and collaborative action.

Estimates of Tanzania’s annual infrastructure gap put us between US$ 5 billion to US$ 7 billion – as is, every dollar of that gap represents a drag on our development and a diminution of the potential we have, i.e. unless and until we acquire good transport systems, power generation capacity, and other basic infrastructure that we need, we will continue to lag behind not only the developed world but other emerging countries as well. That’s why current efforts by the government coupled by sufficient political will to significantly invest in our infrastructure development is commendable – it is a clear indication that our government recognize and appreciate the magnitude of the infrastructure problem we face and the need to seriously do something about it. However, it is also a fact that despite all the good intents, we have limited domestic financial resources and capacity needed to close the gap. There is a need for creating the environment that will enable private capital and expertise to be mobilized for fast pacing this development.

According to the World Bank’s just-released report “Africa Pulse”, points out that by closing the infrastructure gap we would increase per capita GDP by about 3 percent a year; but to do this, we need at least US$ 5 billion per annum, as is, only about half of this amount can be raised from domestic revenues, Development Finance Institutions (DFIs), Public-Private Partnerships (PPPs), natural resource-backed contracts, bi-laterals, and the like.  “the like” by this World Bank report, I presume will mean, among them, is developing our financial markets – from the narrow and illiquid markets, into more deep and mature financial markets, especially the capital markets space.

As it is, our financial system need upgrading — in Sub-Saharan Africa, it is only the banking sectors of South Africa and (to a lesser extent) Nigeria currently offer financial markets sound enough to be tapped for infrastructure projects—although, Kenya has also developed a framework for infrastructure bonds and have been actively using their domestic infrastructure bonds market to finance some of the key transport and power projects.

Whatever the status we are in, we need to unlock infrastructure investment via developing our domestic capital and debt markets so as to increase access to local currency financing for infrastructure projects. In particular we need banks and the capital market that have the financial muscle and internal capability to finance large, transformative infrastructure projects.

More specifically, our government has to enhance its support in the creation of instruments that enable projects to tap debt markets (bonds and project bonds) and enable private operators to access capital (equity raising) and manage risk (hedging instruments and other derivatives). Building capital market instruments will also permit long-term investors (such as pension managers and insurance companies) to take positions in the infrastructure market without being locked in to a project’s capital structure.

To create a vibrant secondary market, our government could allow passive equity investors to exit after a period of time and resell their position to a non-operating equity provider (to prevent a disruption in operations). The government could accomplish this by creating a convertible share that DFIs, Multilateral Development Banks (MDBs) or others could buy to free equity investors after a certain amount of time. DFIs/MDBs could finance specific tranches in the capital structure of PPPs without entering the project within the special-purpose vehicle (SPV). Hence, they could resell their position in the capital structure—an innovative proposition—but not carry the burden of the full investment to operations.

Furthermore, our government need to raise more domestic revenue and diversify the overall income sources. I do understand our emphasis on enhancing tax collections, however, taxes are sometimes not sufficient to accommodate our diverse investment needs – in this case a means must be found to diversify and mobilize more long-term savings to finance extended development projects in infrastructure. For example, further regulatory changes are needed to enable pension and insurance funds to invest more broadly in infrastructure projects whose SPVs are listed in the stock market to allow efficient exit. A broader mix of financial instruments would spread risks across a broader group of investors.

The government and private investors should aim for fresh approaches to infrastructure investment. The government need to be more creative in attracting investment and organizing project financing, and private investors should use their expertise and international experience to approach investment in innovative and localized ways.

India, is currently piloting Infrastructure Investment Trusts, a listed vehicle that lets investors gain access to project portfolios – we could consider also consider using collective investment schemes to finance our infrastructure development.