Why a mandatory 20% free float rule would deepen Nigeria’s stock market

The Nigerian Exchange (NGX) currently allows its largest companies to list with as little as 5% of shares available for public trading. Experts argue this loophole undermines liquidity, price discovery, and investor confidence.

The current rule and its loophole

Free float is the portion of a company’s shares available for public trading. It directly affects liquidity, price discovery, and investor participation. On the NGX, companies listed on the Main Board or Premium Board must either maintain a 20% free float held by at least 300 shareholders, or have a free float valued at N20 billion (Main Board) or N40 billion (Premium Board).

Many of Nigeria’s largest and most valuable companies currently operate with very low free floats. Companies like BUA Foods (around 5%), Dangote Cement (below 10%), and BUA Cement have extremely limited shares available for public trading. Despite their massive market capitalisations, only a small fraction of their shares can actually be bought and sold by ordinary investors. This situation undermines the purpose of a vibrant, liquid stock market.

The problem with the value-based alternative

The option to substitute the 20% free float requirement with a minimum naira value creates several distortions. First, it allows very large companies to list with extremely low free floats. When a company has a market capitalisation of over N10 trillion but only 5% or 9% of its shares are freely tradable, the actual number of shares available for trading becomes very small. This leads to low liquidity.

Second, a low free float creates value traps. Some stocks appear cheap based on traditional valuation metrics such as price-to-earnings and price-to-book ratios. However, because very few shares are available for trading, the prices do not reflect true market demand and supply. Investors who buy these stocks often find it difficult to exit their positions without incurring heavy losses, especially during periods of negative news or market correction.

Third, a low free float reduces overall trading activity on the exchange. When the most valuable companies on the NGX have very few of their shares available for public trading, daily trading volumes remain concentrated in a few stocks. This limits market depth and makes the exchange less attractive to both local and foreign institutional investors who require decent liquidity to enter and exit positions.

Why a strict 20% free float should be mandatory

The NGX should remove the option to substitute the 20% free float with a naira value threshold. A strict 20% free float requirement would deliver several important benefits.

Improved liquidity: A minimum free float of 20% ensures that a reasonable number of shares are always available for trading. This makes it easier for investors to buy and sell without causing extreme price movements. Higher liquidity attracts more participants, including pension funds, mutual funds, and foreign investors who need the ability to enter and exit positions efficiently.

Better price discovery: When more shares are freely tradable, stock prices are more likely to reflect the company’s true value based on supply and demand. Low free-float stocks are often prone to manipulation and irrational price movements because small trades can have an outsized impact on the share price.

Reduced value traps: A mandatory 20% free float would reduce the number of stocks that look attractive on paper but are difficult to trade in practice. Investors would have greater confidence that they can exit their investments when needed. This would improve overall market integrity and investor protection.

Increased trading volume and market activity: A higher free float across more companies would naturally lead to higher trading volumes. When more shares are available for trading, daily turnover on the NGX would increase. This would make the market more vibrant and help the exchange compete more effectively with other African markets, such as the Johannesburg Stock Exchange and the Egyptian Exchange.

It would also strengthen corporate governance. Companies with higher free floats tend to have more dispersed ownership. This creates pressure on management to perform better and be more accountable to a wider group of shareholders. In contrast, companies with very low free floats are often controlled by a few major shareholders who may not always act in the best interest of minority investors.

What this means for the naira and Nigerian businesses

A deeper, more liquid stock market would attract more foreign portfolio investment, boosting demand for the naira. For Nigerian businesses, a mandatory 20% free float would force large companies to unlock more value for ordinary shareholders, improve corporate governance, and make the NGX a more credible destination for capital.