Tightening ETP Speculation Spurs Outcry Over "Market Contraction"

Financial Services Commission Announces 'Stabilization Measures'
Applies Minimum Deposit of 10 Million KRW
Raises Entry Barriers for High-Risk Products
Strengthens Discrepancy Rate Criteria to 6-12%

Industry Calls 10 Million KRW Deposit Excessive
High-Risk Products May Shift Outside Regulation
Retail Investors Protest, "Supposed to Activate, But It's Like an Investment Ban"

[Asia Economy Reporters Eunmo Koo and Minji Lee] Financial authorities are set to introduce a basic deposit system for leveraged exchange-traded funds (ETFs) and exchange-traded notes (ETNs) starting this September to curb speculative demand. However, this move has sparked backlash from the industry and investors, as investments will no longer be possible without the deposit. There are concerns that regulations on these products will inevitably shrink the market size.

The Financial Services Commission recently announced on the 18th the "Measures to Stabilize the Exchange-Traded Product (ETP) Market" aimed at suppressing excessive speculative demand in the ETF and ETN markets and alleviating the concentration on specific products.

The core of this measure is to raise the entry barrier for individual investors into high-risk product markets. To this end, a basic deposit of 10 million KRW will be applied to individual investors seeking to purchase leveraged ETFs and ETNs, which are expected to yield double the profit or loss of the underlying asset's volatility, thereby restricting leveraged investments. Additionally, leveraged ETFs and ETNs will be excluded from margin trading, and a 100% upfront margin requirement will be mandated. Currently, individual investors are required to maintain a basic deposit of 10 million KRW for futures and options trading and 15 million KRW for equity-linked warrants (ELWs), but there are no special restrictions on leveraged ETPs.

Recently, due to the impact of the novel coronavirus disease (COVID-19), volatility has increased, leading to excessive concentration on leveraged products. In particular, as international oil prices plummeted, trading in oil-related products surged among investors expecting a rebound. Since oil futures trading is possible simply by opening a securities account, individual investors aiming for high returns have shown heightened interest.

As of the 7th, the market capitalization corresponding to investment funds in ETP items stood at 53.6 trillion KRW, of which leveraged products accounted for 9.5 trillion KRW, approximately 17.7%. However, the trading volume proportion of leveraged products in the entire ETP market has become overwhelmingly high. The trading ratio of leveraged ETFs among all ETFs, which was 38.1% in January, has exceeded 60% since March, and the proportion of leveraged ETNs has also risen from 78.3% in January to 96.2% last month.

During this process, liquidity supply by securities firms was not smooth, leading to an expansion of the premium rate issue where trading continued at prices much higher than the intrinsic value of the products. The average daily trading value of oil ETPs, which was about 6.2 billion KRW last year, surged to 266.7 billion KRW this month due to rapid demand increase, causing the premium rates of four oil leveraged ETN products to widen to between 93.3% and 289.6%.

The financial authorities also plan to strengthen market management functions, including improving the efficiency of premium rate management. First, the premium rate threshold for designating investment caution items will be tightened from the current 30% to a range of 6-12% to block premium rate expansion early. If a sharp increase in premium rate is expected due to rapid fluctuations in the indicative value and investor protection is necessary, issuers will be allowed to liquidate ETNs early. In cases where rapid action is required due to sudden market changes, investor protection regulations applied to ETNs will be exceptionally waived to ensure timely supply of new products.

The securities industry criticized the proposal to set the deposit at 100 million KRW, arguing that unlike options products, leveraged products do not result in negative investment amounts, so setting a deposit similar to futures and options as a margin is excessive. They are wary of a market situation similar to that of ELWs. When the financial authorities introduced deposit regulations to address the issue of ultra-short-term trading (scalping), the 45 trillion KRW funds concentrated in ELWs in 2010 plummeted by 95% to 2 billion KRW within two years.

Nam Gilnam, head of the Trend Analysis Office at the Korea Capital Market Institute, said, "Ultimately, the basic deposit is effective as an emergency measure," adding, "Considering the significant contraction of the derivatives market after ELW regulations, it is not desirable to frequently use it to cool overheated markets."

Some expressed concerns that investors might flock to high-risk investment products due to regulations on the leveraged market. A securities industry official predicted, "As returns similar to KOSPI and KOSDAQ leveraged products emerge, demand will shift to products outside the regulations." Given the prolonged low-interest-rate environment and the inability to generate returns from real estate, investors are expected to inevitably move toward less stable options such as futures, options, or Bitcoin.

Investors also opposed raising the entry barrier. Since the financial authorities and the exchange initially announced plans to revitalize the market by enabling triple-leverage returns through ETP products, disappointment appears to be growing. One investor claimed, "Overseas, triple-leveraged products are already listed, so this is tantamount to banning investment in leveraged products."

Meanwhile, in the asset management industry, concerns were raised regarding the ETP stabilization measures allowing ETNs to track major domestic indices such as KOSDAQ150 and KRX300. A representative from a major asset management firm pointed out, "This somewhat deviates from the exchange's basic stance of 'major indices for ETFs, other indices for ETNs.'"

This content was produced with the assistance of AI translation services.