Let's have a futures contract on the next chief executive

PUBLISHED : Wednesday, 22 February, 2012, 12:00am
UPDATED : Wednesday, 22 February, 2012, 12:00am


This week Hong Kong Exchanges and Clearing launched its first volatility future. Based on the implied volatility of Hang Seng Index options, it's a worthy contract. In other markets, similar futures have provided professional investors with useful hedging tools. But it's never going to set the world alight; on its first trading day just 10 contracts changed hands.

If HKEx had really wanted to fire the investing public's imagination, it should have launched a futures contract on Hong Kong's next chief executive. Now that would have been a real attention grabber.

In the past, of course, there would have been no point in a futures contract on the contest to become chief executive. The outcome has always been settled well in advance with a quiet word to compliant Election Committee members.

But this time around things are different. Henry Tang Ying-yen's uncanny ability to screw up a clear run by tripping over his own feet within yards of the finishing tape has injected a heavy shot of uncertainty into the contest.

And where there is uncertainty about the future, there's a trading opportunity.

Here's how it would work. To land the job, the successful candidate must win an absolute majority of votes from the 1,200 member Election Committee. So in the run-up to the first round of voting, HKEx would quote a number of votes for each prospective candidate, with each vote being worth, say HK$100.

Let's say Tang was quoted at 600 votes, and you thought he stood little chance of securing more than the 378 nominations he's already got. You could promptly sell short one Tang contract at a price of 600.

If there were more sellers than buyers, his price would fall, and you would be HK$100 richer for a downward tick of the market. If his price fell all the way to 378, you would be better off by a handsome HK$22,100.

Naturally it works both ways. If Tang's stock unexpectedly rose, say on a favourable comment from a well-connected committee member, you could find yourself holding a losing position, and quite possibly facing a margin call.

It might sound like a strange idea, but election futures are commonplace in many countries. For example, the US prediction market Intrade is currently quoting Mitt Romney with a 72 per cent chance to win the Republican nomination, and Barack Obama with a 60 per cent chance of winning the November presidential election (see the charts below).

(Your columnist has even dabbled in a small way, going long on the Liberal Democrats in the 1997 British election, and gratefully pocketing slightly over ?100 on election night when they picked up an additional 28 seats in Parliament.)

But a Hong Kong chief executive future would not simply be a fun punt for inveterate gamblers, it would also provide valuable information.

A conventional opinion poll merely tells you what people would like to happen. A futures contract tells you what they think will happen. And because there is money involved, they think very carefully about it.

What's more, an opinion poll only gives you a snapshot view, while the ability to trade into and out of positions in a futures contract means the price gives you a real-time view of sentiment as it evolves.

On top of that, a futures contract could also provide a useful hedging tool.

Suppose as a property owner you were concerned that C.Y. Leung's pledge to build more flats could undermine prices. You could hedge against the possibility of a C.Y. victory by going long on C.Y. futures, which would pay off if he won.

Admittedly, I can imagine that there might be a few objections to the idea of a chief executive future. For example, someone would be bound to complain about the risk of insider trading.

But in this market, insider trading would be an excellent thing. Members of the Election Committee, and even officials from Beijing's liaison office, should be positively encouraged to trade. That way all the available information would be reflected in the price, bringing commendable transparency to a process that is usually conducted behind closed doors in smoke-filled rooms.

No doubt a few po-faced fuddy-duddies would say that turning the chief executive into a tradable commodity would hardly be commensurate with the dignity of the office.

Nuts to that. What could be more undignified than the spectacle of Tang blaming his own missteps on his long-suffering spouse? And a futures contract would certainly pique popular interest, giving Hong Kong people the feeling they have a stake in the contest.

It's a good idea. Come on HKEx, what about it?