Following the twentieth anniversary of the South Korean derivatives market in July this year, the Korean Financial Services Commission (FSC) has released a package of strategic measures with the goal of nurturing a better environment for investors and dealers.

With the new set of measures, which were announced on November 22, the FSC wants to strengthen risk management and investor protection while pursuing more diversification of products to meet various investment needs. At the same time the regulator wants to improve the global competitiveness of the South Korean market.

'The size of the market is considered adequate for our economy but the quality of the market needs to catch up with other advanced markets,' said Yim Jong-yong (pictured), chairman of the FSC, at a press conference in Seoul.

However, most industry participants were left "disappointed" by the focus of the new measures, according to one senior securities trader at a Seoul-based securities firm.

"After the FSC and FSS (Financial Supervisory Service) announced these new measures, most of the industry participants were disappointed. These suggestions are not focusing on the quantity expansion, just raising the competitiveness through the improvement of quality," said the senior trader. "I do not think the problem is quality but trading volume and liquidity."

The FSC will start conducting stress tests on a regular basis for the equity-linked securities (ELS) market and derivatives-linked securities (DLS) market while at the same time development and listing of more derivatives-linked products will be promoted as alternatives to ELS products.

"It is true that the underlying of ELS was concentrated in a specific asset such as HSCEI," said Kim Jowoon, associate at NH Investments & Securities. "It was pointed out during the last few years that we are too focused in a specific asset which we are aware of and are making an effort to improve our assets by diversifying them." Periodic stress testing will help prevent these problems in advance, according to Jowoon. "Although it needs money and time, they will have a positive effect on the market. In addition, both the clients and the investment firms will need to be fully aware of the risks associated with profit and determine their investment decisions."

Stress tests will be conducted by closely monitoring the liquidity and financial health of securities firms. "As a result of this, we cannot increase the HSCEI underlying more," said the senior securities trader.

"Period stress tests will ease up the securities firms' deteriorating integrity and systematic risk caused by the surge in ELS/DLS issuance which use a specific overseas index as a primary one and will strengthen division management in order to improve transparency," said a senior derivatives executive at a Seoul based firm.

The FSC also plans to promote alternative derivative products such as exchange-traded notes (ETNs) to provide investors with a wider range of investment products while follow up measures with revision of regulations through related institutions like the Korea Exchange (KRX) will be taken. "Unfortunately, ETNs and ELS have totally different characteristics. ELS attract investors who are interested in financial interest while ETN is capital gain," said the senior securities trader.

"Although ETNs are worthy substitutes for ELS, they cannot be launched simultaneously with FSC's announcement but more diverse products are bound to come to the market in the near future," added the derivatives executive. Listing of derivatives linked to new underlying assets which currently require the FSC's approval will be streamlined. Relevant rules will be revised to allow the KRX to decide on the listings of a new derivative products while the FSC will only approve the scope of the underlying assets.

With the number of listed products in South Korea - most of which are equity-linked - much smaller than overseas it is difficult to meet the various investment demands but new products such as exchange-traded fund (ETF) linked derivatives, ultra-long-term KTB futures and mini-dollar futures are about to enter the market. "There are only 31 [different] listed derivatives products in Korea, far less than the 1,441 in the US, 586 in Europe and 72 in Japan. To respond to government effort, KRX will soon add three more sector-futures in Kospi 200 - steel and materials, consumer goods and industrial products," said the trader.

"You need to ask yourself the following questions: which stocks are you interested in the Korean market? Which stocks are you willing to buy in Korea? Which companies do you recognize in Korea?" said the senior trader. "It might be only Samsung Electronics," he said. "I am not exaggerating but you could manage the Korean portfolio with Samsung Electronics, as its market cap is about 250 trillion won, and Hynix's market cap, which is second, is only 33 trillion won," he said. "In my opinion, Kospi200 products, like K200 futures, ETFs are enough for the Korea market," the trader concluded.

Furthermore, requirements for retail investors will become more flexible and tailored in accordance with their risk profiles. "Until now in order for foreign investors to participate in the domestic derivatives market, they had to open accounts by directly contacting domestic securities firms," said the senior derivatives executive.

"But by introducing a foreign unified (omnubis) account in line with the global standard, more foreign investments will be attracted."

Click the link to view the full FSC announcement.

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