The launch of currency options on the Bahrain stock exchange and a growing number of products being issued by Lebanese banks suggest the region's investors are developing an interest in more sophisticated investment instruments. The Middle East has been slow to develop an appetite for derivative products. Until now, the market has been dominated by over- the-counter (OTC) currency options arranged between banks and individuals (MEED 10:3:95).

The Bahrain stock exchange, although one of the smallest in the Gulf, has proved itself more open than its neighbours to new investment instruments. Two corporate bonds are now traded on the exchange, one issued by Aluminium Bahrain and a second issued by Bahrain Commercial Facilities Company. Also recently listed is the Dilmun Index Fund, whose shares are linked to the movement of the BSE index. Although the fund has a simple structure, it conforms to the basic definition of a derivative, that is a financial instrument which derives its value from an underlying security.

More adventurous are the currency warrants launched by Citibank and listed on the exchange in July. 'It is a new instrument for the whole region. It is the first time warrants have been issued in the Arab world,' says Alwaleed Kamal, treasury marketing unit head at Citibank in Bahrain (MEED 14:7:95).

The bank offered $50 million worth of warrants tracking fluctuations in the dollar-Deutschemark exchange rate, although actual subscriptions fell short of that figure. The warrants are aimed at the retail investor who could not afford to buy an OTC currency margin option directly from a bank, Alwaleed says. As listed securities, they also offer investors confidence, because they are regulated by the stock exchange authorities, he adds. Citibank is now planning an issue of dollar-yen warrants in the autumn.

Brokers reported few transactions in the initial period after the launch, but recent fluctuations in the foreign exchange markets have pushed up trading levels. 'People are gaining confidence with these instruments and find it less risky than the spot markets,' says Bahrain broker Yousif Alajaji. 'I hope there will be more instruments like this.'

Citibank (Bahrain) is also active in Saudi Arabia offering forward rate agreements (FRAs) to Saudi clients. These are based on the dollar-Saudi rial interest rates and are similar to interest rate swaps. The dollar- rial exchange rate remains constant, but interest rates between the two currencies can fluctuate depending on market conditions. Through the FRAs, investors have the opportunity to take positions on the interest differentials. The FRAs usually have a maturity of three months, compared with swaps contracts which can last five years. Other banks active in this market are Riyad Bank and National Commercial Bank. However, this is an OTC market and, while active, it is mainly limited to corporates and other banks.

One country which is wasting no time in developing derivative products is Lebanon. Banque Indosuez and Banque Paribas have issued warrants linked to the price of Solidere shares. This enables foreigners to invest in the Beirut property development company, a market which is otherwise restricted to Lebanese and Arab nationals. Local banks have acted as placing agents for the warrants.

Local institutions are also starting to develop their own expertise in this field. On 21 August, Tripoli-based Pan Arab Investment Development (PAID) signed the first OTC option on Lebanese pounds against the Deutschemark, the bank says. This followed similar issues on Lebanese pounds against dollars and options on treasury bills. The Lebanese firm has signed option contracts worth $7.4 million since mid-August, but until now has mainly attracted foreign investors.