Investing in Canada’s Growth Sectors Using Total Return Futures
The last two years have been a period of reflection and innovation for many businesses and sectors. The pandemic accelerated digital innovation and reshaped industries to better adapt to a new future. Geopolitical uncertainties in the first quarter of this year have further caused investors to consider how they will balance short term financial goals with longer term ones.
Historically, Canada as a G7 country has enjoyed a positive reputation among global investors due to its stable economy and low rate of inflation. According to Statistics Canada, foreign investment in Canadian securities reached CA$ 37.6 billion in December 2021, the largest investment since April 2020. On the equities side, the S&P/TSX Composite Index* was up 21.7% in 2021 as compared to 2.2% in 20201. This performance was backed by economic conditions with the Canadian economy growing by 4.6% last year compared to a decline of 5.2% in 20202.
Liquidity in Canadian Derivatives Marketplace
At Montréal Exchange (MX), our trajectory in 2021 closely followed that of the Canadian economy. We have been on a path to modernize the Canadian listed derivatives marketplace, offer diversification from the US, and relative value trading opportunities across major markets. We are bringing together market participants from around the world to create sustained, long-term liquidity, as well as to innovate and diversify our products to meet the needs of both institutional investors and a growing number of retail investors.
While investors have traditionally utilized Canadian bond futures and other short-term interest rate instruments to hedge against risk, last year equity derivatives were a significant contributor of activity on MX. Compared to 2020, year-to-date volume in equity options rose by 34.9% and ETF options by 20.8%, while single share futures grew by 91.8%. Total futures volume across all products increased by 30.5% in 2021 and total options volume saw a 29.5% growth in the same period3.
Canadian Sectors Drive Growth During Pandemic
Following consultations with the industry and feedback from our clients, MX has continued to modernize its futures and options products. A recurrent theme from these discussions was institutional investors and derivatives traders wanting greater access to Canada's growth sectors, such as oil and gas, financial services, and technology, among others.
This is supported by an upward trend in equities trading on Toronto Stock Exchange (TSX) and TSX Venture Exchange (TSXV). The average share price of large cap companies appreciated by 37% while mid cap companies saw a 38% increase in 2021. The top-performing sectors were oil and gas, industrial products, financial services, and real estate. The large cap oil and gas sector saw a 178% rise in average share price, while both financial services and real estate sectors increased by 33% in 20214.
As a result of investor interest, MX is launching six new sector index futures in the second quarter of this year, focusing on energy, financial services, insurance, media, telecommunications, and real estate. These products will provide all the benefits of trading futures in terms of hedging risk, lower margins, portfolio diversification, and efficient use of capital. But they will differ from the existing sector index futures on MX by being Total Return Futures (TRF) contracts.
Benefits of TRFs and Sector Index Futures
In recent years, TRFs have grown in popularity as market participants seek new instruments to manage repo risks on equity markets. Replicating the payoff profile of the Total Return Swaps in OTC markets, TRFs are exchange-traded and benefit from quick trading, margin maintenance, cost optimization, and central clearing functions.
These contracts provide a good opportunity to reduce risk from uncertainty of dividend payouts that might have been impacted by the pandemic. The sector index futures on MX will have four quarterly maturity dates providing both short-term and long-term exposure of up to one year with price return and dividend yield embedded into the product. In addition to hedging against dividend volatility, investors can lock in a 12-month interest rate in the calculation of the basis of the futures contract, thereby avoiding roll risk.
Another consideration for investing in sector index futures on MX is gaining exposure to Canada's energy sector. Both large cap and mid cap companies in the oil and gas sector on TSX and TSXV saw triple-digit gains in 2021. For institutional investors that want to maximize portfolio performance while balancing ESG concerns, sector index futures can be used as an overlay, reducing direct exposure to carbon intensive industries while still benefiting from the sector's overall performance.
Montréal Exchange offers almost 24 hours of trading for global investors, with sector index futures available at the start of European trading hours. These future contracts will provide high limits for institutional investors to build large positions without having to request exemptions, gain indirect exposure to some of Canada's top-performing sectors, and hedge against execution risk.
[1] Canada's international transactions in securities, December 2021. Statistics Canada. https://www150.statcan.gc.ca/n1/daily-quotidien/220217/dq220217a-eng.htm
[2] Gross domestic product, income and expenditure, fourth quarter 2021. Statistics Canada. https://www150.statcan.gc.ca/n1/daily-quotidien/220301/dq220301a-eng.htm
[3] Montréal Exchange Monthly Statistics, December 2021. https://m-x.ca/f_stat_en/2112_stats_en.pdf
[4] TSX and TSX Venture Exchange Investor Insights, December 2021. TMX Market Intelligence Group. https://www.tsx.com/resource/en/2791
For more information on Total Return Sector Index Futures, visit:
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