Hajara Adeola, managing director, Lotus Capital Limited, in this interview with BusinessDay’s Hope Moses-Ashike, speaks on the benefits of the forthcoming listing of first Sharia Compliant Equity Exchange Traded Fund, the Lotus Halal Equity Exchange Traded Fund (LHEETF) on the floor of the Nigerian Stock Exchange via an initial offer for subscription. Excerpt:
We have seen the listing of other Exchange Traded Funds in the Nigerian market i.e. the NEWGOLD Exchange Traded Fund and the Vetiva Griffin 30 Exchange Traded Fund. What would make the LHE ETF different from the other ETFs that exist?
As you may be aware, the ETF market is still quite shallow compared with other mutual funds. So, the listing of the LHE ETF will provide more depth to the market.
Like the Vetiva Griffin 30 ETF, the LHE ETF will track a market index on the Nigerian Stock Exchange. The key difference between the two is that while the Vetiva Griffin 30 ETF tracks the NSE 30 Index i.e the 30 most capitalised stocks on the floor of the NSE which includes banks, insurance, brewery, construction companies among others, the LHE ETF will track the NSE-Lotus Islamic Index. The NSE-Lotus Islamic Index tracks the performance of 15 stocks on the NSE that have passed sharia screening.
I should add that by sharia screening, I mean that eligible securities for the Index would undergo a two-stage screening. There is an initial qualitative screening which eliminates any listed company that deals in alcoholic beverages, tobacco, conventional financial services such as banks and insurance companies, gambling and adult entertainment. At the second stage, companies which passed the initial filter are then evaluated on the basis of Islamic financial (quantitative) screens to eliminate those with unacceptable levels of debt (e.g. total debt must not be more than 30% of market capitalisation), cash (e.g. cash and interest bearing securities must not be more than 30% of market capitalisation; Accounts receivables must not be more than 30% of total assets) and interest income (e.g. interest income must not be more than 5% of revenue). Only companies that pass the second stage are considered for further analysis. Some other important criteria considered are the liquidity and market capitalisation of the securities.
On the other hand, the Newgold Exchange Traded Fund tracks the price of gold in the global markets.
Will the instrument be liquid, as this could be a source of concern to many investors?
Yes, the LHE ETF will be very liquid. First, the LHE ETF will be listed on the NSE in the same way as the shares of any public company and therefore, its units can be bought and sold any time on the Exchange.
In addition, the Fund’s authorised dealer, Vetiva Securities Limited, will also provide liquidity by continuously providing two-way quotes for the LHE ETF on the floor of the NSE.In this way, the authorised dealer will be available to buy the units of any holder at any time.
More so, investors who hold a minimum of 5,000,000 units of the LHE ETF can exit by exchanging their LHE ETF units for the relevant number of the Fund’s underlying shares. This means that such investor would now hold the underlying shares of the ETF directly, and no longer units of the LHE ETF. Investors should therefore have little concern about the liquidity of the LHE ETF..
How can investors subscribe to the initial offer?
Investors have two options, they can either subscribe via a cash subscription or via in-kind subscription by the delivery of the stocks of the constituent companies of the NSE- LII in exchange for units of the ETF.
Where an investor wishes to subscribe in cash during the offer period, the price would be based on 1/200 of the closing value of the NSE-LII on the preceding day of the Subscription, subject to a minimum purchase of 200,000 units. The indicative offer price of a unit of the ETF is N14.07 based on the NSE LII value of 2,813.19 as at 25th July 2014.
What is the minimum investment threshold?
As I explained earlier, the minimum investment for cash subscriptions during the initial offer period is 200,000 units. While the minimum investment for subscription in-kind will be discharged by the delivery of 25 Baskets of the constituent securities entitling the investor to 5,000,000 units of the LHE ETF. Upon listing, the minimum threshold would no longer apply as investors can buy any number of units on the Exchange.
Will the ETF pay out distributions?
Yes, the ETF intends to make quarterly distributions to unit holders from any income it earns.
We understand that the ETF is based on the NSE-Lotus Islamic Index. How has the index performed?
In 2009, Lotus Capital developed the Lotus Capital Islamic Index for tracking the performance of sharia compliant stocks listed on the floor of the NSE. In 2012, Lotus Capital and NSE collaborated to launch the index as a publicly available index. I am happy to say that since 2009, the performance of the index has remained generally positive and consistent, out-performing the NSE All Share Index. For instance, in 2013,the NSE-Lotus Islamic Index returned 61.84 percent compared with the NSE All Share Index which returned 47.19 percent.
It would be interesting to note that even when the markets were down in 2011, the Index performed better than the NSE ASI. While the Index returned negative (13.60%),the NSE ASI returned negative (16.31%). The reason for this performance is that the component stocks of the Index are fundamentally sound value stocks; a number of the stocks in the Index are also defensive and so, their performance is not highly correlated with the wider market (0.7% correlation).
Furthermore, at a Price/Earnings ratio of 19.04x, the NSE-LII trades at a discount to the NSE ASI’s 20.70x. As a dividend play, the NSE-LII offers a dividend yield of 3.82 percent, higher than the 3.75 percent offered by the NSE ASI.
How have other Sharia products performed globally and locally?
Shari’ah compliant financial products have generally performed well. Interest-Free Financial Services is the world’s fastest growing financial sector with over $1.067 trillion in assets worldwide growing at 14-20 percent per annum. The industry’s ethical low-risk approach, and close links between the financial sector and real sector helped to shield it from the worst of the recent credit crisis. This is not surprising as Shari’ah-compliant financing contains in-built checks and balances through risk and profit-sharing structures. It also demands a high level of disclosure and transparency in the financial system which is consistent with the principles of sound securities regulation.
Very recently, the UK government issued an Islamic bond which was listed on the London Stock Exchange. The government raised £200 million on orders totalling more than £2 billion.
From the asset management perspective, both Dow Jones and MSCI maintain a number of Islamic indices focusing on different markets.
I am happy to say that the Islamic finance industry in Nigeria is making steady progress and is in fact, on an upward trajectory. In 2008, Lotus Capital launched the first shari’ah compliant mutual fund in Nigeria, which was very well received. In fact, the fund was over-subscribed by 278 percent.
As mentioned earlier, the Lotus Islamic Index was initially developed in 2009 and publicly launched as the NSE-Lotus Islamic Index (NSE LII) in collaboration with the NSE in 2012. The launch of the LHE ETF to track the index represents for all of us at Lotus Capital, real and significant progress in Islamic asset management.
We recently advised the State Government of Osun on the launch of its Islamic bond. The bonds were the first sub-sovereign Islamic bonds issued in Sub-Saharan Africa. The bonds were oversubscribed and the transaction won the Islamic Finance News African Deal of the Year award in 2013.
The Islamic insurance sector known as Takaful is also growing rapidly. On the global scale for example, the Malaysian Takaful sector is expected to reach half of the size of the conventional insurance sector by 2018. Locally, players such as Cornerstone Insurance plc, Niger Insurance plc and African Alliance Company Limited are some of the operators offering Takaful insurance services.
What do investors need to consider before acquiring the Lotus Halal Equity Exchange Traded Fund?
Investors should look at the benefits of investing in the ETF, as opposed to investing in individual stocks. The ETF will offer all investors greater diversification, liquidity, lower volatility, economies of scale, and lower costs structure, amongst other benefits.
The LHE ETF is as an important diversification tool for institutional investors, pension fund administrators, fund of funds, individual investors, foreign investors and all portfolio managers, amongst others who seek to profitably invest in emerging African equities markets. Furthermore, as a result of the ethical screens, selected companies also have relatively lower risk profiles, including low debt to equity ratios of 30 percent or less, making them more conservative investments.
It is important for investors to note that as the ETF is an equity investment, they should take a long term view and be prepared for some short term volatility. The ETF price can go up as well as down in the short term. However, the five year historical outperformance of the NSE LII which the proposed ETF will track is quite impressive.
Investing in the ETF reduces the cost and time required by an investor to independently create an equity portfolio. Available data shows that the cost structure of an ETF is significantly lower than typical mutual funds (approximately 1.1% versus 3-4% for mutual funds).
Our investors are adequately protected as the Fund’s assets will be held with a Custodian – Citibank Nigeria Limited (Global Transaction Services) while FBN Trustees will act as the Fund’s Trustees.
A key consideration in equity investments is the need to manage the volatility inherent in the capital market. As a unit of the ETF represents a portfolio of fundamentally sound, diverse and lower-correlated stocks, the volatility of the ETF is therefore, lower than that of a single stock and indeed the market as a whole.
Lastly, liquidity is assured as the LHE ETF’s authorised dealer will provide continuous two-way quotes to investors in addition to being able to trade the ETF through any broker just like a stock.
Originally published on www.businessdayonline.com