Commodity exchange and business model

By Sola Oni

The wind of commodity exchange started blowing effectively in Nigeria in 1998 when the Federal Government set up Abuja Securities and Commodities Exchange (ASCE). The said Exchange was registered to trade in commodities such as maize, sorghum, and millet at the take-off stage. However, in 2000, the Exchange metamorphosed into Abuja Stock Exchange (ASE) and went live in 2001. The objective of ASE was to provide electronic trading, clearing, and settlement. It was also established to trade equities, bonds, and plain vanilla.
Unfortunately, ASE was dead on arrival because it was established at a period when the concept of multiple Stock exchanges was fast losing steam due to improvement in Information and Communications Technology (ICT).

By this development, stock exchanges in the same geographical areas were merging for enhanced synergy. The Nigerian Stock Exchange was believed to have the capacity to provide the market for the entire country by simply expanding its operations through the establishment of more branches.

Consequently, ASE ran out of circulation for some years as it became an unpopular venture. After a long period, the first privately owned commodity exchange in Nigeria, Afex Commodity Exchange came on board in 2014.

The ASE has now been re-packaged as Nigeria Commodity Exchange (NCX) to trade in solid minerals and financial instruments such as futures contracts and other derivatives through the intermediation of commodity brokers certified by the vibrant Commodity Brokers Association of Nigeria (CBAN).

Barring unforeseen circumstances, NCX will commence operation soon while CBAN’s chartered status is on the front burner. But one hopes that bureaucratic bottlenecks usually associated with government’s involvement in business would not make the much-awaited approval a forlorn hope. This calls into question the basis for government’s involvement in establishing an exchange or any business whatsoever. It has been canvassed at different fora that government would add value to businesses if it simply restricts its roles to providing physical infrastructure, legal and regulatory framework and access to finance rather than constitute a major risk element to an investment plan.
However, there is a paradigm shift in the landscape of commodity exchange in Nigeria with the historic birth of Lagos Commodity and Futures Exchange (LCFE) being promoted by the Association of Stockbroking Houses of Nigeria (ASHON) in collaboration with Lagos State Government. ASHON’s chairman, Patrick Ezeagu and his deputy, Akin Akeredolu-Ale have consistently explained that the exchange would commence operation after the final endorsement by the Securities and Exchange Commission (SEC).

The LCFE is uniquely established to leverage the skills and competencies of its members who have acquired robust training in the operation of commodity exchange. There are indications that Pat Utomi, a professor of political economy and promoter of the Centre for Values in Leadership is working closely with the Edo State Government to set up a commodity exchange. The more the merrier.

The recent report on commodities ecosystem development released by the Technical Committee set up by the Capital Market Committee (CMC) of SEC posited that investor confidence rests on efficient trading and delivery system. The report advocated the financial inclusion of small-scale farmers through co-operative societies and other forms of association to build a competitive commodity exchange. Also, it noted that it is imperative for the government to review the Land Use Act, Bankruptcy Law and other controversial rules in order to create enabling environment for commodity trading in Nigeria.

At a period like this, Nigeria is in dire need of commodity exchanges. Commodity trading can create investment opportunities in agricultural value chains, boost industrial output and reduce rural-urban migration. In a regime of commodity exchanges, liquidity is injected into the system as farmers can place their commodities at accredited warehouses; receive electronic receipts that reflect commodity type, quality, quantity and other relevant information.
The electronic receipts are fungible, hence, could be traded as a financial instrument. They can be used as collateral for bank loans as well as storage of products in the warehouses until prices appreciate. Despite the benefits of commodity trading, including price discovery, some people have always expressed fears that commodity trading can do more harm than good. They believe that trading in commodity derivatives can expose traders to the risks associated with futures contracts. . They also expressed concerns that futures’ trading is a haven for excessive speculation which breeds price volatilities and inflation.

According to this school of thought, some commodities lack liquidity while cartels such as Organisation of Petroleum Exporting Countries (OPEC) can bring about price control. They contend that some commodities are so complex that make their price forecasting almost impossible and risk of trading commodity is far greater than equities as margin requirements for commodities are much lower than that of equities.

The fears expressed on commodity trading can never diminish the benefits of this specialized market, especially on the strength of Nigeria’s quest for sustainable economic growth and development

Volatility can make or mar a trader. But a smart trader should always realize that speculators provide liquidity by taking up hedgers’ risks. There is no argument that profiting from commodity trading requires skills, steady market intelligence, some elements of luck and strong risk management background.

Promoters of a commodity exchange should develop a business model that will factor the critical risk elements and mitigants. After the global meltdown, India government subjected its commodity market to severe regulations. The United States of America has the most active commodity market and it ensures adequate regulation to hedge it against associated risks and fortify investor confidence. Nigeria should borrow a leaf from the United States in the regulation of commodity market for seamless operation.

Oni, Financial Journalist, Chartered Stockbroker and Commodity Broker is the CEO, Sofunix Investment, and Communications

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