Kenya Capital Markets Authority: The Most Innovative Capital Markets Regulator in Africa

Interview with Paul Murithi Muthaura, Chief Executive of Capital Markets Authority

We have seen many changes in the capital market around the world with the introduction of Blockchain and other new tools. What tools do you want to focus on?

Building from the last four years where the Authority has been consistently recognized as the most innovative capital markets regulator in Africa, we have been doing a lot of work internally and with our stakeholders around how we can create the right kind of regulatory environment that can support as much uptake of financial technology and the use of innovation to try to support the deepening and growth of the markets. One of the key tools we have put in place is the establishment of what is known as a regulatory sandbox which creates a safe space for different innovators to come and engage us as the regulator much less on a checkbox or compliance basis and instead through a more open discussion around what the key market development initiatives are, the outcomes they are trying to achieve, and how we can then build the right kind of regulatory response of framework to support them to fully leverage that. In that context, we are seeing a lot of creative solutions, especially in the space of creating new ways to approach product dissemination, be it through Blockchain instruments or better leveraging of the very well established mobile money practices and trends in the country, and also looking much more critically at tools we can put in place to reduce the cost of compliance for licensed intermediaries in terms of regulatory technology, innovations in reporting, and streamlining the way we collect information and our ability to analyze and respond to that information. One of the first steps we are seeing in terms of leveraging of Blockchain is using Blockchain for KYC (Know Your Customer) so that we can start building a centralized platform through which to conduct customer due diligence or customer analysis for the entire financial sector. This in turn significantly reduces the costs and delays that go into account opening and the ability to trace information in a timely manner while doing inquiries. Another area we see this is especially in the crypto assets space and how we can use Blockchain technology to build alternative ways to structure products and then disseminate them and, subject to cryptocurrency considerations, also be able to pay for them.

What is an example where the sandbox can be useful?

We have introduced the first real estate investment trust, the first green bonds, we have launched derivative markets in the country, we have been able to introduce exchange traded funds, and as a prospect in the very near future we hope to have centrally cleared spot commodity markets.

One of the first entities that came to the sandbox was RegTech Solutions. The innovator has built an alternative reporting platform to standardize how reporting is done across the entire fund management industry, but more importantly, to significantly reduce the cost of how they report to the regulator and how we are then able to analyze that information to inform our regulatory decisions to create the right kind of environment. Another solution that came to the table was in the collective investment or mutual fund space. By linking mutual fund products to mobile money platforms that are already established, you have much easier mechanisms for people across the economy at all sizes to be able to start investing. They can invest on their mobile phone, not necessarily a smartphone, but any phone that can do a mobile money transaction can facilitate that person to start investing. The first case of this is the M-Akiba bond where the government of Kenya issued a global first: a mobile phone-based government debt issuance. They had the minimum investment threshold at $30 or Kshs3,000. They had 500,000 accounts opened. It tells you that there is appetite. With that product, the government is guaranteeing a 10% risk free and also tax-free return on an annualized basis. There is a lot of interest and really the focus is now looking at how to insure the systems and facilitate that customer journey as much as possible.

What is the current market infrastructure?

When we look at the connectivity of Kenya into the global financial system, what is very critical is the trading systems we have in place and the clearing and settlement system infrastructure and how it links into the global payment infrastructure. For a number of years, we have been working very closely with the Nairobi Securities Exchange as well as with the Central Depository and Settlement Corporation, which provides the settlement and clearing for the country, to completely overhaul and upgrade their infrastructure to bring it in line with the global principals for financial market infrastructure. We are expecting hopefully by the end of October/November to be able to finalize the transition to that new infrastructure which will significantly strengthen the overall market stability in terms of robustness of systems and also significantly increase the number of products that we are able to trade, introduce measures such as day trading, securities lending and borrowing, and greatly facilitate collateralization, especially in the debt space and potentially in equities. All of this will significantly improve liquidity and therefore allow the market to further deepen and grow.

Was day trading not working well?

It was not possible based on existing infrastructure. That infrastructure now opens the space in terms of what can be achieved and how fast transactions can be processed.

Who are you targeting? Are you looking at only Kenya or the international side as well?

When you look at market infrastructure, it is both those equations in terms of how you make sure that at the most basic level, a retail investor looking to have some exposure to the market has as easy a customer journey as possible. But on the other side, as you look at our domestic institutional investors and more so international investors, it is how you build the confidence and certainty that transactions they put in this infrastructure will hold true and give them absolute certainty in their ability to close out transactions, improve planning, and their ability to fully optimize their positions through securities lending and borrowing and other types of opportunities. If you are a long-term investor and you are not looking, for example, to exit a position in the near future, you can still lend those securities in the interim and make a return on that even as you continue to hold that position in the long term.

Do you think you provide the right tools?

We have been working very aggressively over the last few years with our industry to try and diversify the number of products that are available in our market. As a result, we have introduced the first real estate investment trust, the first green bond, we have launched derivative markets in the country, we have been able to introduce exchange traded funds, and as a prospect in the very near future we hope to have centrally cleared spot commodity markets. In creating the legal ability to issue these products, we still need to address the other side of that equation in terms of issuers’ understanding of the opportunities that can come through structuring market-based financing as opposed to going to banks, but also building the confidence from the investor side that they can invest in a much broader spectrum of instruments and that can continue to give them the kind of returns they are expecting, especially when you look at the growing pools of institutional investor funds in the country. Right now, pension funds are at about US$12 billion. Insurance is about 5 to 6 billion. All of that really needs an effective way to be deployed and it is our role to create the appropriate spectrum of tools. We are working closely with the National Treasury and the other financial sector regulators. We are moving towards operationalizing Islamic finance markets in the country because they are very significant alternative investment pools globally. We want to make sure that we create an environment so that those can be effectively deployed into the country and the region.

What are the issues that allow you to show sustainable financing of the country?

Globally, we have seen a significant trend towards sustainable investments. Now, about 25% to 26% of all assets under management are looking for either sustainable principal-based or green related investments. So, this is our opportunity as we market Kenya to also show that we have a portfolio of instruments that are going to support longer term sustainability that are well linked with environmental considerations and effective governance. We have been able to support that with the launch of a new Code of Corporate Governance Practices for Issuers of Securities to the Public (CG Code) which brings corporate governance practices in Kenya to the front line of best practices and that was really expected to catalyze a lot more investment. However, interestingly, the first green bond that has come to market is in the space of affordable housing. It also creates a very strong alignment to the national Big Four Agenda to make sure that we are using the capital markets to support national priorities. We are also in discussions looking at social impact bonds in the health space to support affordable health care in the country. As we offer up this broader spectrum of products, we expect the manufacturing sector to really be at the forefront of trying to use the market. Whether this is achieved through raising equity or debt or private equity, that growth is going to be necessary to support execution of the Big Four Agenda.

How do you want to include the SMEs in the system? How will you attract them? What is the key factor for success?

We have a number of parallel initiatives running. With the introduction of new corporate governance standards, there is a clear recognition of how we can make those the right size for the SME space. Especially post global financial crisis, the cost of regulatory compliance has gone up quite significantly. How do we make our frameworks appropriate for smaller sized entities to unlock the potential of the markets without being scared off by very high costs? The second is using innovation. We are engaging with, for example, the establishment of crowd funding platforms. Not every company is able to come to full scale public markets. So, how do we facilitate business to business and peer to peer lending arrangements so that even small-scale investment has a mechanism to be channeled where it is needed while still providing an appropriate level of accountability and transparency in that space? Finally, there is a very high level of education and engagement to make sure that there is an understanding of the opportunity and the road they need to walk. We, as a business, have restructured ourselves internally to establish a dedicated team that looks at just market deepening issues to help that continuous engagement beyond general education and awareness to help walk with the issuers to understand what they will need to do to prepare themselves to be issuers within the capital markets.

What is the spot commodity market and what is your goal with this aspect?

We have had very well-established securities markets in the country. This year, we have been able to launch futures and derivatives markets. But when you look at the fundamental underpinnings of the economy, with agriculture accounting for almost 40% of the GDP, how we link that aspect into the market first and foremost is creating spot commodity markets. We have been working very closely with stakeholders across the Ministry of Trade, Agriculture, Mining, and other players to bring a wider spectrum of products to be able to use the security, safety, and transparency that comes with capital markets-based transactions. At the beginning of the new year, we hope to be able to launch a spot commodity market. We have been able to put the legal framework in place and have done extensive stakeholder engagement so there is a deeper understanding of the value proposition but also the expectations that will come as we move these transactions on market.

What are the medium and long-term goals that you would like to see this institution achieve?

We are just starting the second year of implementation of a new strategic plan. Although we have six strategic objectives, the core of the key priorities are how we are going to leverage technology across the entire capital markets value chain, both as a regulator as well as to support our industry and to use technology to improve and deepen the markets. Secondly, there are the considerations around how we are going to ensure that the promise that exists from a strengthened financial market infrastructure comes to reality. It has been a multi-year journey, but we hope that within the next few months we should be able to operationalize best practice standard financial market infrastructure to give certainty around trading and clearing infrastructure. Through that, we can broaden the spectrum of instruments that are able to come to the market. Ultimately, as the regulator, we continue to carry the mandate around investor protection and market order and stability. We continue to implement a number of reforms around how we continue to strengthen corporate governance, how we ensure that there are effective tools to support enforcement so that there is understanding that actions have consequences, and ultimately, how we channel that into our activities around education and awareness to ensure that we can support long-term uptake of products through the capital markets that can support the national and regional ambitions.

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