By Melissa Hancock
The future of commodites trading looks golden now that Dubai Gold and Commodities Exchange has established itself as a key financial centre.
Dubai’s status as a trading hub in the precious metal industries stretches back many decades — and according to Benedict Floyd, general manager of product and business Development for Dubai Gold and Commodities Exchange (DGCX), trade is as alive as ever today: "Gold is one of the most actively-traded commodities in the world and with Dubai being a main trading hub for gold, there's every reason why a gold contract should be a success."
Yet that hasn’t always been the case. As Floyd recalls: “The price of gold was depressed for a very long time — at around US$300 — so banks weren’t really making much money out of it, nor paying it much attention, however in the last three to four years, the price of commodities have really shot up. Gold reached a high of over US$700 last year and all commodities — copper and oil, for example — have shot up.”
Launched in November 2005, the DGCX is the first online commodities derivatives exchange in the Middle East and, therefore, the first in the critical time zone between the markets of Europe and the Far East. A joint venture between the Dubai Multi Commodities Centre (DMCC), the Government of Dubai, Financial Technologies (India) Limited and Multi Commodity Exchange of India Limited (MCX), the DGCX provides an electronic trading platform for a wide array of commodities.
The DGCX launched trading with gold as both its first and flagship contract and currently lists gold, silver, fuel oil and three currency contracts — the euro, Japanese yen and pound sterling — against the US dollar. “We'll be launching steel soon, probably in the first quarter of this year, and we have many other products that we are looking at including copper, cotton and freight rates, just to mention a few,” says Floyd.
But the online trading of commodities is a new phenomenon to many, according to Floyd, who worked as a trader for Credit Suisse before assuming his current role. “The trading floors were made up of 500 people trading foreign exchange, and 500 trading fixed income and equities, but only about ten people trading commodities.”
And yet while commodities remain a new asset class the world over, Floyd believes that their future importance cannot be underestimated: “Commodities are not only a logical next step in the development of the Dubai market infrastructure, but also in the global infrastructure. With many predicting that we are still at the beginning of the bull market, it is natural that more and more investors will be attracted to commodities.”
With a mature spot trading market in place for gold and other commodities, Floyd points out that the local investor base is becoming more sophisticated: “Those who traditionally have only offered equity products to their clients are realising that by becoming a member of DGCX, they can offer commodities and foreign exchange as well. That’s why we’re seeing a lot of local equity broking houses looking to take up membership so they can offer their clients all three.”
And Floyd’s assertion that “those broking houses that only offer equities will over a period of time start to become disadvantaged” has already been proven true. Research has shown that the commodity market over the last few years has out-performed most asset classes, and the equity trading houses that weren't adding commodities to their investor base were losing clients. “There’s currently a big case for commodities. India and China are growing, and just look around Dubai and think of all the copper, cement and so on that is needed to build this city. So all of these are providing a big boost to the commodities market, and this will continue for a number of years,” explains Floyd.
There is clearly already a healthy and growing appetite for a move away from simply investing in local equities. The DGCX began trading with 50 members and today has 194 fully paid members which include the world’s main broking houses such as Fimat and Man Fin, some of the world’s top banks including HSBC and Deutsche Bank, and many smaller names from around the region. “We also have many applications in process from new potential members and at present the largest interest we are seeing is from local equity broking houses,” says Floyd.
Nevertheless, the regional growth in the trade of commodities will be a gradual process. As commodity trading has only recently become a main focus again, there is currently a shortage of traders. Indeed, one only has to look at the huge sums being paid by the top investment banks for commodity traders to realise that it is not easy finding people with in-depth knowledge of commodities. As Floyd explains: “That’s why if you were a commodity trader ten years ago, you’d probably be one of the lowest paid on the trading floor whereas today you're probably one of the highest paid."
Similarly, while being the first derivatives exchange in the region gives DGCX the advantage of being ‘the first guy on the block’, as Floyd points out: “It also means that local knowledge of what we offer is not as advanced as if there were already established exchanges.” Consequently, the DGCX has the formidable task of teaching local investors about commodities. It employs three people full-time for training, and to date has held courses and seminars for around 2000 people.
In particular, there is very little knowledge of futures and options and Floyd explains: “These are commonly perceived to be both difficult to understand and risky, however with basic training, neither of these two are the case.” Furthermore, the DGCX offers huge advantages for trading futures and options including transparent pricing, the ability to short a commodity, no counter-party risk, leveraged investing and the ability to invest in commodities without having to worry about physically holding them.
But Asim Khan, director at Trust Securities, the first member to trade on the exchange, believes that people are becoming smarter in the region and realising that there is an alternative investment product now.
“Some of the smart investors are realising that if they find something which seems quite pricey, for example gold or silver, with an exchange like DGCX they can usually short-sell it. For example, a lot of my clients went short on gold when it traded at US$700 in the middle of last year and they made really good money.” Khan goes on to explain that more and more people are bringing their money to broking houses like Trust Securities primarily because they’ve lost a lot of money in the local stock markets.
The local broking houses themselves realise that it is incumbent upon them to educate the local population and not just rely on the training courses being carried out by the DGCX. “We have a pretty active team who speak 10 languages in total and are really trying to increase awareness of commodity trading,” says Khan. Trust Securities are also in the process of designing structured products around physical commodities to target local users.
“We’re looking at structured conventional and non-conventional products like gold funds and Shariah-compliant gold funds. Obviously gold isn’t normally Shariah-compliant but we’ve recently had some scholars researching into it on our behalf who have realised that it can be Shariah-compliant, depending on how you use it.
I’m waiting for more information from the scholars on the parameters and how we could go forward on it, but it’s an exciting proposal.”
The DGCX has made significant progress in the 14 months since its inception, and the future is bright. The strategic location of Dubai enables easy access to large and rapidly growing regional markets — and a vast population of 1.8 billion people with an economy of US$1.5 trillion in terms of GDP for the Middle East, Asia, Indian subcontinent and Africa — and furthermore Dubai is the third largest re-export centre in the world markets today.
In short, commodities trading in the Gulf is only just taking off.