Why liquidity is a vital cog in the running of a bourse

Liquidity in the stock market can simply be defined as the ability of a market to absorb large trade volumes with minimal effect on price movement.

The more liquid a market is the lower the costs of transactions, the faster new entrants experience price discovery and also serves as a big attraction for foreign investors.

However, there are various challenges observed in frontier and emerging markets with low liquidity levels.

Among them are limited free-float, poorly diversified investor profiles and large portions of long-term investors.

Moreover, limited awareness of the market by potential domestic investors and complex market access models have been an especially enormous challenge in Africa.

Majority of exchanges in the continent have liquidity levels below one per cent, with only two exchanges recording levels of over 10 per cent as of May 2020 - Egypt 48 per cent and Johannesburg (45 per cent).

These have wider pools of listed companies and relatively higher market capitalisation.

However, that is not always the case, as seen in Nigeria (five per cent) - where listed companies are among the highest in Africa, but share turnover velocity - a measure of liquidity - is lower than both Morocco’s and Mauritius’.

The latter have turnovers of six per cent and eight per cent with the number of listed companies as 75 and 98 per cent respectively. Therefore, this serves as evidence of the multiplicity of factors that require consideration to enhance liquidity.

Moreover, the introduction of market makers or liquidity providers will eliminate lags in execution, by ensuring that every buyer has a seller and every seller a buyer. In the market awareness front, the Nairobi Securities Exchange (NSE) in collaboration with other stakeholders continues to educate the public through various channels, including an informative TV show that highlights the listed companies in Kenya and gives a detailed analysis of market performance.

The NSE has also launched an e-learning platform to enable training programmes to continue despite the social distancing measures put in place for our safety in this era of Covid-19.

A new mobile trading platform has also been launched to facilitate trading through sponsored direct market access, which is available for download at the Google Play Store for Android users and App Store for iPhone users. This means that anyone can trade from the comfort of their homes.

This is expected to grow the number of retail investors significantly in line with NSE’s 2020-2024 strategy.

Additionally, through the Ibuka platform, NSE continues to work closely with Small and Medium Enterprises (SMEs) for corporatisation purposes in readiness for fundraising via formal listing platforms or a forthcoming unquoted securities platform.

With these measures in place, the Kenyan market can achieve its Capital Markets Master Plan targets among them being equity market capitalisation to GDP of 70 per cent, corporate bonds outstanding to GDP at 40 per cent and 3-4 GEMs listing per year.

This would be in addition to the highly coveted Morgan Stanley Capital International emerging market status, whose size and liquidity requirements include three companies with a full market capitalisation of $1400 million (Sh15 billion), floated market capitalisation of $700 million (Sh75.6 billion) and Annual Turnover Ratio of 15 per cent.

- The writer is a strategy and research analyst at the Nairobi Securities Exchange.