Volume 2 Issue 2
MAY 2014
The Electronic Trading Resource for Asia
Outsourcing The Front Office
One Rule For Dark Pools in HK Aussie Migration to T+2 Promises Savings Trading Asia From Overseas Japan standardises to accelerate opening WWW.ASIAETRADING.COM
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HOW MUCH AREYOU OUTSOURCING? The volumes have picked up but seem to be struggling to keep up that momentum. On top of that the regulators continue their efforts to put more costs to the sell side; Hong Kong algo rules and the new dark pool consultation that will inevitably lead them down the same road as Australia moving flow back to the primary away from dark pools. The buy-side are struggling to perform and earn fees and keep asking the sell side to provide more for less. Itâ&#x20AC;&#x2122;s now come to the point where outsourcing the entire business is necessary just to stay in the game. Is it still worth it to play it anymore? Our second issue of volume two looks at front office outsourcing, HK darkpools and the challenges westerners face trading in Asia. Itâ&#x20AC;&#x2122;s hard to believe the industry has been forced to go that route. If we are not too careful the sell side might disappear entirely.
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CONTENTS
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PAGE 16
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MAY 2014 VOLUME 2 ISSUE 2
06 08 12 16
IN THE ZONE
OUTSOURCING HK DARK POOLS DERIVATIVES
Our round-up of industry news and developments across Asia.
Outsourcing the front office - Outsourced trading desks have long provided flexibility for short-term risk players in Asia, but now bigger investors see this as a permanent option.
One rule for dark pools in Hong Kong – Hong Kong’s regulator is looking to level the playing field for alternative liquidity pools.
China’s bright futures - Beijing is tapping the break on China’s commodity futures, with steady growth the priority.
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PAGE 31
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CONTENTS
20 22 24
REGULATION ASIA FUTURES BUY SIDE Japan standardises to TRADING Trading Asia from overseas accelerate opening - Dan Barnes looks at the RECAP alternatives for buysides who Regulatory reforms and See the latest derivatives volume rankings at Asia’s exchanges.
trade Asia offshore.
market structure changes are adding impetus to the country’s push to align its financial markets with international standards
18 -VOLATILITY
A look at volatility around Asia.
30 - OPINION POLL Do you think Japan’s PTSs will be affected by the JPX tick size change?
26 - WHO’S WHO
Asia Etrader spoke with Masami Hatakeyama, Co-CEO SBI Japannext.
31 - WORD ON THE STREET “Should Asia be concerned with ‘Flash boys’ and HFT?” - Hear from some of your industry peers.
32 - O & A
A Snapshot Of The Asia Fund Industry
36 - FRAGMENTATION
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30 34 46
OPINION & ANALYSIS
Are we seeing the end of fragmentation in Asia?
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EQUITIES
POST TRADE
Japan’s Trading Revolution: Deregulation and the Rise of Retail Investors - Asia Etrading held its 6th forum in Tokyo to examine the latest developments in Japan’s market structure.
Australian migration to T+2 promises savings - Shorter settlement cycle will deliver lower costs, although reengineering processes will impact smaller firms.
Asia’s Fragmentation Footprint – Read the latest on alternative venue competition in Asia.
41 - ASIA EQUITY TRADING RECAP Asia Equity Trading Recap. The latest rankings of turnover, average trade sizes, spread and market impact costs on Asia’s exchanges.
46 - TECHNOLOGY
The Shanghai to Hong Kong Equity Bridge - ShanghaiHong Kong Stock Connect should encourage two-way market flows but they will remain tightly controlled.
48 - BACK PAGES
Dates – Exchange holidays and important industry events Directory – A listing of Asia’s electronic trading industry participants
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IN THE ZONE
Australia
China
T. Rowe Price enhanced its Australian trading execution capabilities with the appointment of specialist buy-side equities trader Richard Nelson. Outsourced trading firm BestEx and San Francisco-based global trading firm TORA announced a joint venture to offer global trading services to local fund managers. Australian Securities Exchange (ASX) lodged its submission to the Financial System Inquiry, which is intended to lay out a ‘blueprint’ for the financial system over the next decade. The exchange would like to see Australia work more closely with other regional financial centres to ensure that global regulations are tailored to the needs of the Asian region, and argues that Australia’s policy makers and regulators need greater control of systemically important financial markets and infrastructure. Broker CQG’s trading products become available to its customers via ASX Net. Market regulator ASIC notes the release of the internationally negotiated consultation paper on the Asia Region Funds Passport.
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China Financial Futures Exchange Incorporated (CFFEX) and Canada’s exchange operator, TMX Group, signed a memorandum of understanding to enhance their knowledge of each other’s businesses and to evaluate further business opportunities. SSE says trading system of T+0 for large-cap stocks is in the offing. Lyxor Asset Management appoints Alexandre Werno as executive vice general manager of Fortune SG, a joint venture fund manager with Baosteel Group. China Securities Regulatory Commission approves DCE pilot of futures bonded delivery business. Australia’s Westpac receives approval from the China Banking Regulatory Commission to become one of the first foreign banks to set up a sub-branch in the Shanghai Free Trade Zone.
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IN THE ZONE
Singapore
Dubai BGC Partners and the Dubai Multi Commodity Centre team up to promote a Sharia-compliant Commodity Murabaha mechanism. UOB Bullion and Futures joins the Dubai Gold and Commodities Exchange as a clearing member.
Hong Kong Hong Kong Exchanges and Clearing Limited (HKEx) rolls out its Mainland Market Data Hub in Shanghai. HKEx adds renminbi currency futures – the world’s first deliverable RMB currency futures – to after-hours trading. Telecoms and connectivity firm Telstra Global taps Matthew Lempriere as global head of its Financial Services Segment. HKEx says no agreement has been made on mutual market connectivity between China and Hong Kong. The SFC welcomes the Shanghai-Hong Kong Stock Connect, a pilot program for establishing mutual stock market access, and the Stock Exchange of Hong Kong reveals eligible stocks for the link.
India MCX-SX appoints Thomas Mathew as chairman and Ms. Ashima Goyal, Professor at Indira Gandhi Institute of Development Research as the vice chairperson. NCDEX launches launch Bajra futures. The unit for trading and delivery is 10 tonnes, while the maximum order size of the contract is 500 tonnes. The Ace Commodity Exchange launches GOLDHEDGE futures trading in.
Japan On 10 March, the Japan Financial Services Agency and the US Commodity Futures Trading Commission signed a Memorandum of Cooperation regarding the exchange of information in the supervision and oversight of regulated entities that operate on a cross-border basis in both Japan and the US. TOCOM says it will adjust trading hours and first day trade schedule in July. TOCOM and DME say they will collaborate on energy products. Japan Exchange integrates the derivatives market operated by Tokyo Stock Exchange (TSE) into that of Osaka Exchange (OSE). OSE launches JPX-Nikkei Index 400 Futures. TSE completes trading unit consolidation period and start of transition to 100 share trading units. TSE has applied to the FSA to be registered as Local Operating Unit of the global LEI system.
Korea Korea Exchange (KRX) announced the launch of its new trading platform, EXTURE+, which is based on x86 Linux servers. KRX launches voluntary clearing of OTC derivatives. KRX launches its first gold spot market. KRX signs an agreement on “Uzbek Stock Market Modernization Project” with the State Property Committee (of Uzbekistan at Tashkent, Uzbekistan. WWW.ASIAETRADING.COM
US investors are now able to trade Singapore Exchange’s (SGX) latest suite of Asian index futures, comprising SGX MSCI Thailand Index Futures, SGX-PSE MSCI Philippines Index Futures and SGX MSCI India Index Futures. SGX says it will introduce Asian currency futures, and launch options on China A50 futures in the third quarter. SGX enhances the types of orders for the stock market, including making making market orders and market-to-limit orders available throughout trading session. SGX welcomes Haitong International as a trading member. SGX began consulting the public on the proposed introduction of SGX Uniform Singapore Energy Price (USEP) Quarterly Base Load Electricity Futures, which would be traded on SGX-Derivatives Trading platform and cleared by SGX-Derivatives Clearing house. SGX derivatives market experiences a hardware failure on 1 April leading to an outage for several hours. SGX welcomes Quam as its first Hong Kong-based derivatives market member. SGX launches clearing of non-deliverable interest rate swaps. SGX to revise the securities market fee structure on 1 June. SGX welcomes Masterlink Futures as a derivatives trading member.
Malaysia Bursa Malaysia Berhad issues an updated list of eligible securities for securities borrowing and lending. The 20th ASEAN Exchanges CEOs meeting was held in Bali on 4 April, concluding with a milestone agreement regarding custody and settlement services on the ASEAN Trading Link.
Taiwan Starting 1 May, the Taiwan Futures Exchange will disclose calculated opening prices during pre-trading session and the exchange says it will introduce Market with Protection orders from 12 May. The FSC warns that salespersons employed by foreign financial institutions without registered establishments in Taiwan may breach Article 29 of the Banking Act if they solicit financial products in the country. Clearstream, the financial market infrastructure active in Asia since 1990, will develop a direct settlement link to the Taiwanese market for global investors and issuers to access the Taiwanese international bond market, such as the Renminbi-denominated ‘Formosa bond.’
Thailand On February 25, the Financial Services Agency and the Securities and Exchange Commission of Thailand exchanged letters on the sharing of their experience and expertise. The exchange was intended to strengthen cooperation between both authorities in order to promote the development of sound financial regulatory mechanisms and financial markets. The Stock Exchange of Thailand and Deutsche Börse AG signed a memorandum of understanding on 11 April, saying they want to enter a cooperative relationship for the purpose of facilitating the development of the securities and derivatives markets between Thailand and Germany.
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COVER STORY
CUT-OUT TRADING: OUTSOURCING THE FRONT OFFICE OUTSOURCED TRADING DESKS HAVE LONG PROVIDED FLEXIBILITY FOR SHORT-TERM RISK PLAYERS IN ASIA, BUT NOW BIGGER INVESTORS AND BROKERS SEE OUTSOURCED TRADING RESOURCES AS A PERMANENT OPTION. By Dan Barnes
“About 14 years ago an ex-Barings broker called Robert Fleming set up a firm to outsource trading, called CF Global,” says the global head of equity trading at an asset manager with US$275 billion in assets under management (AUM). “His model was simple: hedge funds based outside of Asia could get their eyes ripped out passing orders to an overnight broker and the local Asian funds, or they could pass orders to him and he would manage them for you.” The appeal was clear and the model worked. As Asia became an increasingly mainstream market for overseas firms to invest in over the following decade, their trading operations in Asia grew. At the same time, investment management firms from within the region have grown larger, as governments lend support to retirement funds to meet a burgeoning pension crisis; the Organisation for Economic Co-operation and Development OECD predicts that the proportion of the population over 65 years of age will grow in the Asia Pacific region to 17% by 2050 up from 6% in 2012. The increased investment has led to higher trading activity, even in recent years. Average monthly turnover in Asia-Pacific grew from US$1.058 trillion in 2010 to US$1.880 trillion in 2013,
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according to Thomson Reuters’ Equity Market Share Reporter. Trading has also become more complex. Since 2004 brokers have been increasingly offering high-volume execution away from the primary exchanges by using high-frequency trading (HFT) engines to cross trades against their own order flow and that of other clients. Alternative lit markets have popped up in Australia and Japan. Proprietary trading shops have used HFT engines to arbitrage various instruments and counterparties, generating significant order flow in those markets technologically capable of supporting such business.
RARE TRADERS In one sense these developments have created advantages for the buy-side. Their execution strategies have become more flexible, explicit trading costs have broadly fallen, and firms’ insight into execution quality has improved. At the same time, the sell-side has been able to capture more liquidity and to reduce costs by automating the sales-trading process. On the other hand, complexity around execution has been perceived as a threat to market stability. In August 2012, US broker Knight Capital went bust in less time than it takes to fly from Taipei to Hong Kong. In December 2013, Korean broker Hanmag WWW.ASIAETRADING.COM
COVER STORY repeated the feat so quickly, it would not have had time to hail a taxi. Both traded the wrong way into markets using automated execution systems. As a result of these incidents regulators in India and Hong Kong have imposed rules that pressure firms into formally standing by their (and their clients’) ability to use trading tools. The regulation that came into force in Hong Kong on 1 January 2014 led buyside firms to shorten their broker lists, as an immediate method for reducing complexity. Best execution is also complicated by counterparties that are perceived as predatory; in June 2013 Australia’s pension fund association, Industry Super Network, estimated its members lose between AUS$1.6 billion to AUS$1.9 billion per year to HFT firms that sit between brokers and an investment managers, charging fractional mark-ups per trade. This makes for a tough environment for a trader to understand, and as asset managers from Shanghai to Sydney begin to look at new markets, they will find that trading skills in the region have not expanded to meet demand and cost pressure is constraining ambitions. “There is a limited talent pool in Asia, and there are just not enough qualified people to do [the job],” says Chris Jenkins managing director for Sales and Operations, Asia Pacific at Tora Trading Services, a multi-broker electronic trading platform. “If you are hiring a trader they may lack experience in certain methods of execution or may prefer only to deal with sales traders. Whatever [the compromise] might be, you are really passing more responsibility on to the executing broker and asking them to do it for you. In order to provide full cover you need to hire two traders, who are highly skilled in execution, or else you are passing responsibility for execution further down the line.”
CHALLENGING RETURN ON INVESTMENT
The market complexity also adds cost to the desk as it requires a significant amount of operational and technical support to operate effectively, says Francis So, head of BNP Paribas Dealing Services, an outsourcing provider and spin-off of BNP Paribas Asset Management, which has US$660 million assets under management (AUM). “The cost to set up a trading desk is not just the cost of having the physical people around or having office space or business contingency plans, it is also the cost of legal, compliance, IT,” he says. “As regulators are imposing more rules on both the buy and the sell-side it requires additional compliance officers at the dealing [desk]. For example, in Hong Kong we have gone through the Securities and Futures Commission requirements regarding algos, which were effective as of 1 January 2014, and we have reviewed our list down to nine DMA / algo suppliers that we are working with. Also we have each broker come in to talk to us once or twice a year to discuss the developments with each of the algos.” David Logerais, head of Asian Trading at Amundi Asset Management, which has US$1.1 trillion AUM, says that regulation and trading IT are definitely affecting the cost of execution services and as a result Amundi’s trading operations are moving into the WWW.ASIAETRADING.COM
“I think that the asset managers have focused less on the cost of the dealing desks and more on raising and retaining funds.” Francis So Head of BNP Paribas Dealing Services business of outsourcing to third parties. “Mutualising the cost or outsourcing execution to an existing structure really makes sense,” he says. “Amundi Intermediation is looking to expand outside of the group and provides those services to external clients.” The firm uses a global applications platform across all trading desks within the group, which Logerais says allows it to moderate costs far more effectively than a firm that operates in regional siloes. “The desk in Paris uses the same technology as we do in Asia,” he says. “That helps in rationalising the global IT cost and strengthens our position when negotiating with the provider because of the number of traders we employ. That could benefit a firm looking for execution services to better manage costs, without having to support the infrastructure management such as staff, software, IT maintenance and development.”
BROKER LIMITS The sell-side is also under enormous pressure to generate returns in the face of a more demanding client base, higher costs and more intensive regulation. In their ‘Outlook for Wholesale and Investment Banking 2013’, consultancy Oliver Wyman and broker Morgan Stanley found that if a bank was fined as a result of trading control issues, the resultant impact on the banks’ market capitalisation was typically twice the size of the fine. Perhaps not surprisingly, some brokers are seeking out a safe pair of hands to which they can entrust their trading business. Joel Hurewitz, head of product strategy, Asia Pacific for Instinet, May 2014
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COVER STORY with respect to reducing costs through outsourcing, and I can certainly see more of that in the future,” he says. “That’s not to suggest that we’re going to see brokers exit the execution space en masse, but there are many who are looking at outsourcing certain aspects – such as algo suites, front-end technology and possibly some support – of their execution platforms.”
ASIA-PAC EXPANSION Several markets in Asia Pacific have seen homegrown buy-side interest expanding, creating the potential for outsourced dealing requirement. New entrants such as Amundi are moving in and new opportunities are opening up. Australia’s equity market has changed shape quite significantly in the last three years, as market infrastructure has been opened up to competition and its pension or superannuation funds have been boosted by the government policy to support an aging population with mandatory contributions. As the funds have expanded, their managers have looked at overseas investment opportunities to diversify their portfolios, while honing their ability to achieve best execution, which under the Australian Securities and Investment Commission (ASIC) guidelines issued in August 2013 encompasses price, speed, cost and execution certainty.
“Mutualising the cost or outsourcing execution to an existing structure really makes sense.” David Logerais Head of Asian Trading, Amundi Asset Management says, “There are more than 15 markets in Asia, so keeping up with all of the market structure and regulatory changes and new order types is complex. Markets are evolving, with true secular forces reshaping the industry.” In June 2013, David Easthope, analyst at research house Celent wrote in his note ‘Innovation in Focus: The future of cash equities trading operations’ that, “To reverse a situation of lower profitability and rising complexity, we believe brokerage firms must think the unthinkable. It is far better to assume that any and all IT can be outsourced than to assume none can be outsourced.” Following its internal arrangement to provide execution services for parent company, Japanese broker Nomura, agency broker Instinet was approached by several firms to discuss its potential for supporting third-party trading operations. Hurewitz believes that execution technology has been particularly scrutinised, as cost and regulatory pressures mount up. “Easthope said, ‘We believe brokerage firms must think the unthinkable’
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“Superannuation funds in Australia are looking to take back control of investing in overseas markets so therefore they need to develop a trading desk in the region or to trade out of Australia,” says So. “They need to assess what their internal cost would be versus doing it by outsourcing.” On 17 March 2014 Tora announced that it would team up with Best Ex, a trading desk outsourcing provider that focusses on Australian securities, in order to provide Best Ex’s clients with access to international markets. The potential to service China’s market is also significant, says So, although the market will need to move out of the growth phase and into an expansion phase before that potential is realised. “In Hong Kong specifically we have had a lot more of the Chinese asset managers coming in to set up shop based on RQFII business,” he says. “We had discussions with them that generated some interest, however it is on the backburner for the moment, the main reason being that they are more focused on the local market, with relatively low overseas business that would create the requirement to create or expand a trading desk. I think that the asset managers have focused less on the cost of the dealing desks and more on raising and retaining funds. When they move towards looking at other costs there will be an opportunity there.” WWW.ASIAETRADING.COM
COVER STORY
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COVER STORY 2
RULE FOR DARK POOLS
IN HONG KONG Due to the ongoing dark pool consultation, all interviews for this article were conducted on condition of anonymity. Words by Dan Barnes.
H
ong Kong’s market regulator, the Securities and Futures Commission (SFC) launched a two-month consultation on dark pool operation in February 2014. It has proposed a uniform set of rules in order to balance out the arbitrary conditions that had built up across all providers of alternative liquidity pools (ALPs). The consultation feeds into the foremost debate in equity market regulation, given the concerns around dark pools and front-running that have emerged in Michael Lewis’ book ‘Flash Boys’. In it, Lewis details how liquidity arbitrage is used by high-frequency trading (HFT) firms to frontrun long-only funds in the US, with advantages conferred by the trading venues they use, including broker dark pools. However Hong Kong’s market is nothing like the US. According to the SFC, the reported volume of trading executed in any ALPs to the Stock Exchange of Hong Kong (SEHK) in Hong Kong currently accounts for approximately 2% of the total market turnover, compared to around 12-15% of the US market. Since February 2011, ALP operators, which are exchange participants of SEHK, have to report and flag all ALPs transactions within a minute of trade execution, so dark pool activity is more transparent to authorities than it is in other markets. In addition, HFT is hard to run profitably in Hong Kong due to several costs: the 0.003% transaction levy; the HK$0.50 trading tariff on every transaction; and the stamp duty of 0.1% for both buyer and seller on every transaction. Nevertheless there are risks that the SFC identifies as stemming from ALPs and a fragmented market. “While acknowledging the benefits that ALPs can bring, some market observers have expressed concerns that the growth of ALPs could weaken the price discovery function that is typically provided by traditional stock exchanges and adversely affect the competitiveness of smaller broker-dealers,” it says. “[ALPs can] blur the line between the functions traditionally performed by exchanges and those performed by market intermediaries such as broker-dealers. By offering new combinations of services that do not fit neatly within existing regulatory models, ALP
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operators might well pose regulatory challenges and create uncertainty due to less clear delineation between the functions performed by exchanges and those performed by market intermediaries.” The market supervisor has already had a run in with one bank, based upon a “misrepresentation” of the model it would use to gather order flow in its dark pool. On 19 December 2013, HSBC was fined HK$5 million for breaching SFC’s licensing rules when it applied for permission to launch its StockMax dark pool for retail and institutional investors. The SFC found that “a decision by HSBC to change the enrolment approach for retail clients from ‘opt in’ to ‘opt out’ was made in mid-October 2010 but as a result of internal miscommunication, when the SFC specifically queried HSBC Securities in November 2010 whether the ‘opt in’ approach would apply to retail clients, HSBC Securities misrepresented to the SFC that this would be the case.” The regulator also noted that a decision to change from ‘opt in’ to ‘opt out’ for the banks’ retail clients had been confirmed internally in December 2010, but that “HSBC Securities failed to notify the SFC about the change as required by the Securities and Futures (Licensing and Registration) (Information) Rules (Note 4).”
UNBALANCED MARKET
For six brokers – CLSA, Credit Suisse, Goldman Sachs (Asia) Securities, Macquarie, Merrill Lynch Far East and Morgan Stanley Hong Kong Securities – the review is a chance to re-establish themselves on an equal competitive basis. During the course of 2013, the SFC gave each of them a set of 12 conditions under which they could operate their dark pools. These were very detailed instructions. For example, just one of the conditions requires the publication of guidelines concerning: trading and operational matters; user restrictions; WWW.ASIAETRADING.COM
COVER STORY 2 This consultation is a way of closing the circle entirely and getting all dark pool providers on one licensing regime and set of stipulations. user priority, order routing and execution methodology; transaction pricing; order cancellation; the internal controls to ensure the fair and orderly functioning and conflicts of interest; the potential risks associated with transactions; the use of proprietary orders; whether users’ orders can be aggregated; and the identity of each member of its staff who is permitted access to trading information. They were substantially different from the conditions imposed upon other dark pool providers. Some, including agency broker Instinet and global bank Citi have had no conditions imposed upon them since they began offering automated trading on 4 May 2005 and 3 May 2007 respectively. Full service broker UBS had conditions imposed upon it on 6 July 2011 but they are truncated compared to the 2013 arrangements. “About two years ago the SFC stopped de-facto approving licences and they used that time to take stock of the applications that had come in,” explains one sales trader. “It came out that six brokers had a very unique setup compared to the rest of the ALP providers, although among the six it was the same. That was the SFC’s first step in clearing up something that had got a little loose over the years.”
Ashley Alder Hong Kong’s Securities and Futures Commission, CEO
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The consultation and proposals from the SFC are therefore an opportunity to level the playing field for all dark pool providers, and a chance to remove some of the uncertainty that buy-side firms face with their use of broker dark pools.
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COVER STORY 2 HK SFC CONSULTATION PAPER COVERS THE FOLLOWING KEY AREAS: • • • • •
Enhancing the level of disclosure to ALP users Ensuring the priority of agency orders over proprietary orders initiated by ALP operators and their affiliates Limiting the level of visibility of trading information available to the staff of ALP operators Maintaining system adequacy Introducing additional control, record keeping and reporting requirements
“Over the years the markets have evolved and the regulators have evolved their thinking as well, so when new license applications came in their thinking about terms had changed,” explains one broker. “Eventually they developed a set of rules that were so far from their original thinking in 2003 that they were difficult to reconcile. As of August 2013 some people had no stipulations beyond the ATS regulation; others had some fairly stringent requirements placed upon them. This consultation is a way of closing the circle entirely and getting all dark pool providers on one licensing regime and set of stipulations.”
ONE RULE
The new proposal is expected to be passed with few changes; the SFC infamously changed one word in its proposal to implement algorithmic trading rules, despite a two-month consultation with the industry. The changes it proposes have had a mixed response from market participants. Two are specifically relevant to the case with HSBC, namely the banning of retail order participation and the requirement for an opt-in policy for any participants.
The requirement to deliver an opt-in agreement for participation is also problematic as the industry mantra ‘liquidity begets liquidity’ indicates – if you remove all of a pools market participants and then ask them if they want to join a now empty pool, the cost-benefit analysis may not add up. “Six of us had to go through this exercise of opting everyone in and our crossing volumes did indeed plummet,” says one sellside, head of electronic trading. “They are now back up, since we went through this process of opting our hundreds of clients back in. Others will now have to go through this exercise and their volumes will plummet.” There are other changes that the rules make which are proving controversial. For example, the requirement to preference agency orders over principal orders, regardless of the order type, will impact business, say brokers. “We have clients who trade on equity swaps because they don’t have custodian arrangements in the country to settle equity trades. We then buy the stock in the market, which is a principal trade. In the US they make execution for riskless principal like this,” notes one.
SHANGHAI LINK
It is far from all bad news. Other developments promise expanded opportunities for the sell-side. Firstly, the SFC says that it favours an adjustment to its current policy by permitting transactions to be conducted in ALPs in Hong Kong involving different types of securities, irrespective of whether they are listed or traded on SEHK or on other overseas markets. This is specifically predicated on restricting ALP access to institutional investors only who, the SFC believes, “should have the knowledge and sophistication required to conduct this broader range of transactions.”
Restricting retail order flow poses a challenge under current understanding as it may prevent the use of orders from private banking individuals, despite the placement of their orders by qualified brokers.
In conjunction with this, the SFC is proposing to open up the hours that an ALP can operate within, beyond the periods that trading is conducted on SEHK. In part that is required to support transactions in the expanded set of securities that will be seen, but it will also grant an official status to after-hours trading that requires next-day reporting to the SEHK.
“The SFC has said in its draft that ALP providers have to ‘ensure’ - that is the word that they use – that there is no retail order involved in a transaction if you follow it all the way to its origin,” said one sell-side representative. “That puts huge operational onus on the ALP providers to put systems in place, if they haven’t yet, with all of their counterparties to ‘ensure’ that there is no retail participation anywhere in the order mix.”
These points become most interesting when considered in conjunction with the announcement on 10 April 2014 that the China Securities Regulatory Commission and the SFC have approved in principle, the development of a pilot programme, Shanghai-Hong Kong Stock Connect (SHKSC), for establishing mutual stock market access between Mainland China and Hong Kong.
In part this is believed to be a move to support order flow at the large set of retail brokers; they are well positioned as a political constituency in Hong Kong to put forward nominated legislators and they are finding it increasingly hard to compete on price when facing the larger brokers and those with electronic offerings. The SFC specifically says it intends to work on factors that might “adversely affect the competitiveness of smaller broker-dealers.”
Expected to launch in October 2014, the pilot programme will operate between the Shanghai Stock Exchange (SSE), the SEHK, China Securities Depository and Clearing Corporation (ChinaClear) and Hong Kong Securities Clearing Company (HKSCC).
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Investors will be able to trade eligible shares listed on the other’s market through local securities firms or brokers. Potentially this will create an opportunity for dark pool providers to expand their range of market participants, more than recompensing them for any restrictions imposed by the SFC’s new rules, although neither the SFC nor HKEx were able to confirm whether that would be possible. WWW.ASIAETRADING.COM
COVER STORY 2
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DERIVATIVES
China’s BRIGHT FUTURES New contracts are being added, Shanghai is home to a new exchange, and market structure reform is on the horizon, but Beijing is tapping the break on China’s commodity futures, with steady growth the priority, writes Stephen Price.
WANG ZILONG Senior Strategist at Phillip Futures -------------------------------------------“..existing contracts like silver futures are still very attractive and have been volatile in recent years.” Reports of the demise of the commodity super-cycle seem to have been premature, at least where China is concerned. After a spike in turnover for many futures contracts, and a drop in prices, during the spring of 2013 and into the summer, activity has stabilised, with volume and open interest growing steadily, and new contracts being added to the roster. And that is just how the country’s government likes it. “The people who think the commodity super cycle is coming to an end may have a bearish view on current economics, because economic adjustment may cause the trading volume of commodities and raw materials in cash markets to decrease, which would lead to a decline in the futures market,” says Jim Huang, CEO, of financial and economic data provider China-data. com.cn. “However, trading volumes in the past five years don’t seem to support that view. In fact, commodity markets are still in a period of rapid development.” But as with any generalisation, such views belie a complex set of variables. “There are large differences across different contracts,” says Yan Shuping, vice director of broker Nanhua Futures, based in Hong Kong. “The volatility of agricultural products is relatively small, but there are relatively large fluctuations for industrial products, whereas the volatility of new contracts is relatively large, and for mature contracts volatility is relatively small.” Commodities typically fall into one of these two categories, agricultural products and industrial products. “Agricultural products are sensitive to supply, while industrial products are sensitive to demand,” said Huang. “Frequent meteorological disasters over the past few years not only reduced yields, but also caused greater price volatility. For example, the recent market expectation of the El Niño phenomenon caused prices of coffee, cocoa and palm oil to soar. In terms of industrial products, global
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macroeconomics has from 2010 entered into an adjustment period because monetary and financial policy change has increased, which caused a long-term downtrend, followed by small rebounds.” Excess industrial supply has yet to be tackled, and industrial demand growth is declining, so the long-term decline in industrial product is not over, says Yan, who maintains a bearish view on industrial products. “But because of the possibility of increased agricultural product supply, and variable weather, rigid demand, agricultural prices are more resilient, and we don’t rule out a partial bull market,” she adds. Looking to the future, Yan sees increased volatility as highly probable. “Because China’s economy is now in a downward cycle, strong commodities performance will be harder to come by,” says Yan. “Overcapacity and structural adjustment are critical factors … so excess demand and supply will be the main issues. On the other hand, a weak market spawns short-term panic, and therefore demand for hedging and speculative demand often results in rising volatility.” On average, volatility has decreased over the past few years, because, says Wang Zilong Wang senior strategist at Phillip Futures, the commodity market is bearish, and new products have split margins. “Depending on supply, demand and the taste of Chinese speculators,” he says, “existing contracts like silver futures are still very attractive and have been volatile in recent years.” Volatility is affected by market structure, and increased market volatility can lead to greater active trading in derivatives markets as firms seek to hedge against price movement.
UNIQUE MARKET STRUCTURE Unlike most exchanges in capitalist economies, China’s futures exchanges are not listed, and therefore maximisation of profit and returning value to shareholders do not drive business. Stability, education and the reduction of risk are priorities. Exchanges have been mandated to conduct countrywide roadshows to publicise WWW.ASIAETRADING.COM
DERIVATIVES
YAN SHUPING Vice Director of Nanhua Futures (Hong Kong) -------------------------------------------“...a weak market spawns short-term panic, and therefore demand for hedging and speculative demand often results in rising volatility.” the risks involved in trading derivatives. “My client base is mainly the prop groups, liquidity providers, the market makers, the high-frequency trading (HFT) groups,” says Dean Owen, independent market access consultant, and Asia Representative for Commos Consulting. “China has structured the market so these groups cannot actively participate. They can participate if they set up a legal entity in China, and trade physical, but certain rules basically forbid large volume trading.”
2013, with the China Financial Futures Exchange coming in 19th, according to the FIA. China’s four futures exchanges combined recorded volume of 2,061,823,091 contracts in 2013, compared with CME Group’s 3,161,476,638 and Eurex’s 2,190,548,148. However, some important changes are afoot. China’s exchanges are in the process of adding options. Trade simulators are scheduled to be tested soon, and banks, and companies will likely jump on board to hedge their risks, says Zilong. Meanwhile, the new US dollar-denominated crude oil contracts point to the future, with the Shanghai International Energy Exchange trying to attract overseas participants, with foreign futures commission merchants (FCMs) allowed to apply for trading memberships, open omnibus accounts with China brokers, and sign off introducing broker agreements with local FCMs.
In 2011, China’s exchanges banned any single client from cancelling more than 500 orders per day, which put the kibosh on HFT. Furthermore, market data is not live, and the exchanges do not offer quicker feeds, which creates a level playing field for all participants regardless of technology investment. Retail participation is high, at an estimated 90%, a weighting that the government wants to decrease in favour of corporate participants, says Owen. However, companies that trade derivatives must pay corporation tax, whereas retail investors do not. And with some companies setting up retail accounts to avoid paying corporation tax, it is impossible to discern the real participant breakdown.
The development of China’s exchange-traded derivatives, as with much of China’s financial infrastructure, depends on the will and whim of the country’s ruling elite.
“It’s a pre-margin system, so there’s no leverage at all,” says Owen. “You have to post your margin upfront for your order to be accepted by the exchange. You have to have money in your account in order to place an order.”
But with President Xi Jingping advocating at the Third Plenum in November, 2013, a stronger role for the market in allocating resources, China’s futures exchanges may soon move up the hierarchy of importance.
China’s exchanges recorded some of the fastest growth of worldwide exchanges in 2013. The country’s commodity futures exchanges traded 1.868 billion contracts in the year, up 38.9% year-on-year, reports the Futures Industry Association (FIA). From 2000, when 27 million contracts were traded, to 2010, when 1.56 billion contracts were traded, annualised growth was some 50%, reports the World Federation of Exchanges. In terms of volume, calculated by contracts traded or cleared, Dalian Commodity Exchange, the Shanghai Futures Exchange, and Zhangzhou Commodity Exchange ranked 11th, 12th, and 13th globally in WWW.ASIAETRADING.COM
“CRSC was planning to offer options on futures,” says Owen, “but all of a sudden we are not hearing much from them anymore. It looks like the priority is to somewhat stabilise the stock market, and the focus has shifted more towards equities and this link they’ve opened up with Hong Kong. They know that launching options in a bear market is a bad idea as suddenly retail investors would have a method to short the market.”
DEAN OWEN Independent Market Access Consultant and Asia Representative for Commos Consulting -------------------------------------------“It looks like the priority is to somewhat stabilise the stock market, and the focus has shifted more towards equities...” May 2014
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VOLATILTY
S&P/ASX Volatility Index 23
23
21
21
19
19
17
17
15
15
13
13
11
11
9 May-13 5/1/2013
9 Sep-13 5/1/2013 8/1/2013
Last 200DMA
Dec-13 8/1/2013 11/1/2013
Jan-14 11/1/2013 2/1/2014
April-14 2/1/2014
Hang Seng Indexes- Volatility Index 30 23
23
28 21 26
21
19 24
19
22 17 20 15 18
17
Last Last
15
16 13 14 11 12
200DMA 200DMA
13 11
10 9 May 2 2013 May-13 5/1/2013
9 July 8/1/2013 30 2013 Sep-13 5/1/2013
Oct 2811/1/2013 2013 Dec-13 8/1/2013
Jan 30 2014 Jan-14 11/1/2013 2/1/2014
April-14 April-14 2/1/2014
India NSE Volatility Index 40 23
35
23
21
21
30 19
19
25 17
17
Last Last
15
15
200DMA 200DMA
13
13
20 15 11
11
109
9 Sep-13 5/1/2013 8/1/2013
May-13 5/1/2013
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Dec-13 8/1/2013 11/1/2013
Jan-14 11/1/2013 2/1/2014
April-14 2/1/2014 WWW.ASIAETRADING.COM
VOLATILTY
Volatility Index Japan (VXJ) 50 23
23
45 21
21
40 19
19
35 17
17
30 15
15
25 13
13
11 20
11
9 15
9 Sep-13 July 23 2013 5/1/2013 8/1/2013
May-13 5/1/2013
Last Last 200DMA 200DMA
Dec-13 Oct 21 2013 8/1/2013 11/1/2013
Jan-14 Jan 23 2014 11/1/2013 2/1/2014
April-14 Apr 23 2014 2/1/2014
KOSPI 200 Volatility Index 22.00 23
23
21 20.00
21
19
19
17
17
18.00
Last Last
16.00
15 14.00
15
200DMA 200DMA
13
13
12.00 11
11
9 10.00 May-13 2013/05/02 5/1/2013
9 Sep-13 2013/07/29 5/1/2013 8/1/2013
Dec-13 2013/10/2911/1/2013 2/1/2014 Jan-14 8/1/2013 11/1/2013
April-14 2014/01/24 2/1/2014
CBOE China ETF Volatility Index (“VXFXI”) 40 23
23
21
21
19 30
19
17
17
35
25 15
15
13
13
11
11
159
9 Sep-13 5/1/2013 8/1/2013
20
May-13 5/1/2013
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LastLast 200DMA 200DMA
Dec-13 8/1/2013 11/1/2013
Jan-14 11/1/2013 2/1/2014
April-14 2/1/2014 May 2014
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DERIVATIVES
Source: Exchange Websites
TOP 50 Futures Contracts By Volume in Asia for Mar - Apr 2014 Exchange
Product
Vol. April 2014
Vol Mar 2014
Shanghai Futures Exchange Zhengzhou Commodity Exchange Dalian Commodity Exchange Shanghai Futures Exchange Shanghai Futures Exchange National Stock Exchange of India Dalian Commodity Exchange Zhengzhou Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange Shanghai Futures Exchange Dalian Commodity Exchange Dalian Commodity Exchange Zhengzhou Commodity Exchange Zhengzhou Commodity Exchange Dalian Commodity Exchange MCX-SX Dalian Commodity Exchange Korea Exchange Shanghai Futures Exchange Australian Securities Exchange Dalian Commodity Exchange Zhengzhou Commodity Exchange Australian Securities Exchange Multi Commodity Exchange Shanghai Futures Exchange Dalian Commodity Exchange Australian Securities Exchange Multi Commodity Exchange Zhengzhou Commodity Exchange Zhengzhou Commodity Exchange Multi Commodity Exchange Shanghai Futures Exchange Multi Commodity Exchange Bursa Malaysia Tokyo Financial Exchange Zhengzhou Commodity Exchange Multi Commodity Exchange Multi Commodity Exchange Tokyo Commodity Exchange Multi Commodity Exchange Multi Commodity Exchange Osaka Securities Exchange Tokyo Financial Exchange Multi Commodity Exchange Multi Commodity Exchange Multi Commodity Exchange Zhengzhou Commodity Exchange Multi Commodity Exchange Multi Commodity Exchange
Steel Rebar Rapeseed Meal Soy Meal Silver Rubber US Dollar/Indian Rupee Hard Coking Coal White Sugar Coke Iron Ore Copper Soy Oil Palm Oil Pure Terephthalic Acid (PTA) Flat Glass Linear Low Density Polyethylene (LLDPE) US Dollar/ Indian Rupee Fibre Board US Dollar Gold 3 Year Treasury Bond No. 1 Soybeans Rapeseed Oil 90 Day Bank Bills Silver Micro Aluminum Corn 10 Year Bond Crude Oil Methanol Cotton No. 1 Natural Gas Zinc Futures Silver Mini Crude Plam Oil US Dollar/ Japanese Yen Thermal Coal Copper Nickel Gold Copper Mini Nickel Mini 10 Year JGB Australian Dollar/ Japanese Yen Silver Gold Mini Lead Mini Strong Gluten Wheat Gold Aluminum Mini
44,294,918 40,920,570 34,882,570 22,520,186 19,660,800 17,832,969 17,384,530 16,644,860 15,426,810 15,284,502 13,462,568 12,278,096 10,509,888 9,768,812 8,487,134 8,460,976 8,142,559 5,026,498 4,079,210 4,015,852 3,069,725 2,627,574 2,533,960 1,733,645 1,632,071 1,546,290 1,437,584 1,422,982 1,177,142 1,176,072 1,016,504 926,276 805,622 771,828 769,312 711,208 703,106 676,457 662,037 590,702 509,601 502,608 496,024 442,636 435,611 320,652 312,915 309,676 269,725 263,328
55,621,254 36,468,844 35,068,260 48,219,044 21,405,552 20,191,790 13,619,916 18,284,922 20,988,192 15,185,758 23,194,482 17,006,438 14,669,218 15,103,876 9,903,092 10,966,776 11,340,553 5,690,894 3,784,128 5,565,340 5,498,931 1,251,050 4,384,658 2,295,878 1,935,908 1,230,298 1,861,542 3,310,124 1,443,962 1,445,878 1,049,820 1,271,502 2,115,846 946,280 959,670 723,314 1,336,034 903,067 577,900 702,569 629,308 452,582 900,728 555,185 508,676 439,971 406,963 272,594 366,184 292,594
(11,326,336) 4,451,726 (185,690) (25,698,858) (1,744,752) (2,358,821) 3,764,614 (1,640,062) (5,561,382) 98,744 (9,731,914) (4,728,342) (4,159,330) (5,335,064) (1,415,958) (2,505,800) (3,197,994) (664,396) 295,082 (1,549,488) (2,429,206) 1,376,524 (1,850,698) (562,233) (303,837) 315,992 (423,958) (1,887,142) (266,820) (269,806) (33,316) (345,226) (1,310,224) (174,452) (190,358) (12,106) (632,928) (226,610) 84,137 (111,867) (119,707) 50,026 (404,704) (112,549) (73,065) (119,319) (94,048) 37,082 (96,459) (29,266)
358,937,181
442,347,345
(183,410,164)
Total 20
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Difference
Type Metal Agriculture Agriculture Metal Commodity Currency Commodity Commodity Commodity Commodity Metal Agriculture Agriculture Commodity Commodity Commodity Currency Commodity Currency Metal Interest Rate Agriculture Agriculture Interest Rate Metal Metal Agriculture Interest Rate Energy Commodity Commodity Energy Metal Metal Agriculture Currency Commodity Metal Metal Metal Metal Metal Interest Rate Currency Metal Metal Metal Agriculture Metal Metal
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DERIVATIVES
Top 20 Stock Index Futures for Mar - Apr 2014 Exchange
Index
Vol. April 2014
Vol. Mar 2014
China Financial Futures Exchange Osaka Securities Exchange National Stock Exchange India Korea Exchange Singapore Exchange TAIFEX Singapore Exchange Hong Kong Exchanges Osaka Securities Exchange Singapore Exchange Singapore Exchange Hong Kong Exchanges Osaka Securities Exchange TAIFEX Australian Exchange Hong Kong Exchanges Osaka Securities Exchange Hong Kong Exchanges Thailand Futures Exchange Bursa Malaysia
CSI300 Nikkei 225 mini S&P Nifty KOSPI 200 FTSE China A50 TAIEX Nikkei 225 HHI Nikkei 225 MSCI Taiwan SGX CNX Nifty HSI TOPIX TAIEX mini SPI 200 MSI TOPIX mini MHI SET 50 KLCI
15,281,992 13,594,233 4,312,905 3,086,392 2,066,962 1,831,159 1,816,797 1,604,373 1,522,916 1,493,625 1,463,213 1,398,232 1,028,767 924,143 560,899 544,592 373,544 243,224 213,180 176,004
17,011,928 16,236,544 5,298,133 3,168,906 2,491,507 1,784,853 2,580,922 2,035,738 2,654,018 1,478,000 1,536,708 1,495,393 2,775,271 1,009,795 1,434,741 588,395 272,599 280,553 361,904 201,102
(1,729,936) (2,642,311) (985,228) (82,514) (424,545) 46,306 (764,125) (431,365) (1,131,102) 15,625 (73,495) (97,161) (1,746,504) (85,652) (873,842) (43,803) 100,945 (37,329) (148,724) (25,098)
Total Region
53,537,152
64,697,010
(11,159,858)
Top 5 Gainers
Top 5 Decliners
Exchange
Product
Zhengzhou Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange Shanghai Futures Exchange Korea Exchange
Rapeseed Meal Hard Coking Coal No. 1 Soybeans Aluminum US Dollar
Net 4,451,726 3,764,614 1,376,524 315,992 295,082
Top 5 Agriculture Futures Exchange
Product
Zhengzhou Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange
Rapeseed Meal Soy Meal Soy Oil Palm Oil No. 1 Soybeans
Total
Net
Exchange
Product
Net
Shanghai Futures Exchange Shanghai Futures Exchange Shanghai Futures Exchange Dalian Commodity Exchange Zhengzhou Commodity Exchange
Silver Steel Rebar Copper Coke Pure Terephthalic Acid (PTA)
(25,698,858) (11,326,336) (9,731,914) (5,561,382) (5,335,064)
Top 5 Commodity Futures Volume 40,920,570 34,882,570 12,278,096 10,509,888 2,627,574
101,218,698
Top 5 Currency Futures
Exchange
Product
Volume
Shanghai Futures Exchange Dalian Commodity Exchange Zhengzhou Commodity Exchange Dalian Commodity Exchange Dalian Commodity Exchange
Rubber Hard Coking Coal White Sugar Coke Iron Ore
19,660,800 17,384,530 16,644,860 15,426,810 15,284,502
Total
84,401,502
Top 5 Metal Futures
Exchange
Product
Volume
Exchange
Product
Volume
National Stock Exchange of India MCX-SX Korea Exchange Tokyo Financial Exchange Tokyo Financial Exchange
US Dollar/Indian Rupee US Dollar/ Indian Rupee US Dollar US Dollar/ Japanese Yen Australian Dollar/ Japanese Yen
17,832,969 8,142,559 4,079,210 711,208 442,636
Shanghai Futures Exchange Shanghai Futures Exchange Shanghai Futures Exchange Shanghai Futures Exchange Multi Commodity Exchange
Steel Rebar Silver Copper Gold Silver Micro
44,294,918 22,520,186 13,462,568 4,015,852 1,632,071
Total WWW.ASIAETRADING.COM
31,208,582
Total
85,925,595 May 2014
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BUYSIDE
Remote Control:
Trading Asia From Overseas If less than 10% of an asset manager’s trading activity is in Asia, putting feet on the ground can be an expensive option. Dan Barnes looks at the alternatives for firms who trade in from the outside.
Funds are flowing out of emerging markets as certainty about China’s upward trajectory, and that of dependent economies, falters. Asian funds saw net outflows of £235 million (US$394 million) in January 2014, according to UK buy-side trade body the Investment Management Association. Other cracks are appearing in the region’s markets; the Indian rupee and the Indonesian rupiah are two components of the ‘fragile five’ economies currencies, which broker Morgan Stanley considers at risk. As a consequence buy-side firms trading into the region from outside are seeing a weaker case for establishing a trading desk on the ground in ether Hong Kong or Singapore, an undertaking which can be an operational challenge even for firms with a committed strategy. There are ways of overcoming an initial lack of presence. For example Martin Currie, a UK-based asset manager with US$9.5 billion assets under management (AUM), has successfully used joint ventures since 2008, including one with Singapore-based APS Asset management which ended in August 2012, to establish itself in Asia. In April 2013 it set up a regional trading desk in Singapore, headed by Steven McCole, and supported by trader Liping Tan. Others have felt the returns did not outweigh the costs, particularly when faced with macroeconomic events. Standard Life Asset Management, another UK-based firm which has US$222 billion AUM of which US$3.02 billion are in Asia Pacific, shut its Asian trading desk shortly after Lehman Brothers’ collapse in 2008 and now primarily manages its Asian trading via its Boston office or using exchange-traded funds (ETFs) and depository receipts (DRs). AXA Investment Management (US$757 billion), Baillie Gifford (US$176 billion AUM) and Kames Capital (US$89 billion AUM) trade Asia from the UK, relying on their brokers and ADRs/ETFs to manage the process.
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“They often realise how different Asia is once they have someone on the ground, so buy-side firms do sometimes pull back from having feet on the ground.” ----------------------------------Josephine Kim Head of Asia Electronic Trading Sales for Asia Pacific Equities at Bank of America Merrill Lynch Dutch pension fund manager APG (US$474 billion) has a policy of self-directing as much order flow as possible, eliminating the option of outsourcing to another buy-side and using as little broker trading as possible, with DMA preferred. To deliver that capability in Asia, it has a single trader based in Hong Kong operating as part of the trading desk based in the Netherlands, using the same trading platform, handling Asian orders for both the Dutch and local portfolio managers but operating in Asian market hours. Balancing out the cost of a desk in Asia is the main issue, says Josephine Kim, head of Asia Electronic Trading Sales for Asia Pacific Equities at Bank of America Merrill Lynch (BAML). “There are pros and cons; you need to require a bare minimum of personnel so the responsible officer, head of compliance, so it is not as easy as sending a trader into Asia,” she says. “There are a lot of operational costs. They often realise how different Asia is once they have someone on the ground, so buy-side firms do sometimes pull back from having feet on the ground.” Without that presence, the challenge presented to the European or US trader is that Asia is a multitude of markets without a unified rule book and with many moving parts that might affect best execution. Nicola Egan, head of Trade Execution US and Asia Equities at AXA IM says, “You have to know about the impact that changes like Hong Kong’s dark pool rules will have upon your execution quality.”
Making the connection
Firms trading remotely need to decide which operational model to use in order to facilitate access most effectively. DRs and ETFs both offer access to markets relatively quickly, within the hours of the US and European markets, however for firms that want direct access to blocks of equities, without significant market impact, choosing the right partner is imperative. In smaller markets that are less liquid, this can make all of the difference. WWW.ASIAETRADING.COM
BUYSIDE Egan says, “The impact you have varies by market size and by the broker you have; I have a good broker in the Philippines who can chop me blocks and the market is quite reactive there, compared to larger markets.” ING US Investment Management, which holds US$511 billion AUM, partnered with agency broker Instinet in 2008 in order to better manage active trading in the region. At the time, a portfolio manager was changing limit prices overnight, which was creating pressure for the firm’s two US-based international traders. The connection with Instinet allows ING to smoothly pass order across to be actively managed.
that technology can help to disguise orders but also there is an acceptance that these things are going to happen to some degree.” Kim says that people trading outside of their own hours often tend to use more liquidity seeking algos, while guaranteed volume weighted average price (VWAP) is being taken up for program trading particularly. “Most of the global clients are more implementation shortfall (IS) benchmark focused than VWAP and we have seen people care more about best execution than order completion with VWAP price,” she says.
“If we get liquid orders prior to our leaving at night with instructions such as ‘market on open’ or ‘VWAP over the day’ we might stage them with a broker that has a decent desk in that region,” explains Nanette Buziak, head of Equity Trading at ING Investment Management US. “If we are going to be more active in our trading in that region (i.e. higher difficulty, more complex orders) we route to Instinet and then their Asia desk picks it up with a workflow we have in process between our two firms globally. Instinet keeps email updates going between my team and the portfolio managers to everyone up to date all night, or during the trade date. To the extent that portfolio managers want to trade in Asia after US market hours, we have an arrangement with Instinet such that orders automatically get routed to Instinet’s desk, so a trader in the New York team doesn’t need to be live to acknowledge it; instead it is auto-routed.”
AXA IM’s Egan uses a range of brokers, but has moved away from any automated trading as a model due to the lack of control.
The firm then uses a full TCA service to evaluate the executions on a trade-by-trade basis, in order to ensure it is attaining best execution and that order instructions were followed.
To better support these traders, Kim says that brokers have evolved into 24/7 operations, that can keep a firm connected to overseas markets, however remote they may be.
After the pass
“A lot of firms are comfortable with having an overnight desk and just routing orders to the sell-side,” she says. “We now operate around the clock with orders rotated throughout so that way it really doesn’t matter where the buy-side is based, they always have someone to talk to during office hours. That can make it less necessary to open another office outside of the home market time zone.”
The use of low-touch services by the buy-side is somewhat limited by the risk of being gamed. Paul Squires, head of Trading at AXA IM says, “There is an implicit perception that locals are trying to sniff out an institutional order, the VWAP jockeys in markets like Japan. There are ways
“We have used algos in the past, but as the UK is asleep when the markets are trading it is not a very compelling platform,” she notes. “I would rather have my orders in the hands of a human or use a service like guaranteed VWAP.” Although her orders are typically passed across to a London sales trader, Egan says that the level of colour on what is happening in a market should still be strong. “I would expect a broker to tell me if I put in an order for a stock and the foreign ownership limit is almost used up,” she says. “I would always expect that level of information from a London office.”
Cumulative Equity Fund Flow Developed vs Emerging
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REGULATION
W
ith the onset of Abenomics’ fiscal, monetary and structural reform program comes an increased openness and acceleration of change in Japan, not least in terms of regulatory loosening of the country’s financial markets.
Bank of Japan and financial institutions. Part of its services went live in January, and the remaining services are scheduled to migrate to the system between the autumn of 2015 and the beginning of 2016.
While many a soothsayer last year forecast near financial Armageddon, the country’s reforms have not resulted in a crash, but have seen the country implement several far-reaching market structure reforms.
“That’s a significant change because it’s the central bank, and that’s the FD for yen and JCBs,” says Marsden.
“Compared to any other market, there’s been a higher rate of change,” says James Marsden, head of operations, Securities Processing Solutions International, at post-trade processing specialist Broadridge. “Over the past 10-15 years, there’s been almost one change per year. They are continuing to modernise the market and open it up, but it’s also challenging because there are a large number of changes, and some of them are quite big.” An important upcoming development is the Bank of Japan’s new BOJ-NET system, the network that processes online the payment and settlement of funds and government bonds between the
“Hardware replacement is a demand driver for outsourcing to the private cloud as it’s not easy for financial firms to maintain that edge.” ------------------------------Yasutaka Mizutani Product Marketing Manager, KVH Co., Ltd.
The new BOJ-NET Funds Transfer Services (FTS) and JGB Services (JGBS) will begin daily operations at 8:30am, and 7:30am on the last business day of the month, which is earlier than present, the BoJ said in a report released in March. Current hours for FTS will be kept and those for JGBS will be extended, resulting in the two services having the same operation hours.
The drive to global standards
Japan is upgrading the system to improve its accessibility and in response to increasingly networked settlement and payment infrastructure and the growth of globalised transactions. From 2015, institutions using a CPU connection will be required to change communication control and support the XML format messages, Tokyo-based consulting, system development and business IT outsourcing firm NTT DATA Group announced recently. Furthermore, liquidity management is required for current accounts and government bonds in accordance with the new BOJNET’s settlement. As a result, financial firms will need to revamp their systems. However, such farreaching changes are throwing up challenges for financial market participants.
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REGULATION in a series of ongoing market initiatives that will include SWIFT, TARGET2-Securities (T2S) and Bank of Japan (BOJ-NET),” said Paul Clark, head of Institutional Strategy and Product Management, Securities Processing Solutions International, Broadridge.
The upside of standards
“The changes have two sides,” says Marsden. “There’s the difficulty of complying and keeping up, which affects how you do business, but there are also opportunities created by the changes, such as mutualising costs by coming to a vendor like us rather than doing it yourself.” Just as the market structure is changing, compliance with standards delivers confidence in
“When it comes to dealing with the minutiae of what the regulators are saying and how we and our partners understand it, Japan has an additional layer of complexity because of the language,” says Robbie McDonnell, managing director for Asia/Pacific Sales at trading platform supplier Trading Technologies. “As there is no true universal standard, we need to be very diligent on how we interpret the sentiment. It is imperative that we have bilingual experts working this through.” But participants are making headway. In March, Broadridge Financial Solutions announced the implementation of its upgraded Japan Securities Depository Center (JASDEC) connectivity and processing solution suite, which enables firms settling and matching trades via the centre to meet the new wave of ISO 20022 global message standards being adopted by it. The ISO 20022 standard is intended to streamline communication and decrease risk for financial institutions through the use of a single, common language, thereby improving straight-throughprocessing. Moreover, deliver versus payment (DVP) settlement for onshore stock lending will mitigate counterparty risk exposure for these trades by ensuring instant exchange of securities and cash. Market participants have five years to transition to the new protocol. “It [the suite] will enable our post-trade processing clients to meet their timeline obligations while mitigating exposure and increasing efficiency through global standards, and is the first deliverable
“That’s a significant change because it’s the central bank, and that’s the FD for yen and JCBs” ------------------------------James Marsden Head of operations, Broadridge WWW.ASIAETRADING.COM
innovative solutions. For example, compliance with Center for Financial Industry Information Systems (FISC) guidelines has allowed new solutions, such as KVH’s Financial Private Cloud, to overcome fear risk associated with cloud-based services, taking the cost out of supporting and upgrading hardware or software. The service comprises data centres, servers, storage, network fabrics and OS licenses and internet/intranet access circuits. Importantly, the service meets the FISC guidelines and is open to auditing by the FSA, or authorised third parties. FISC is a non-profit organisation founded in 1984 that establishes guidelines for the promotion of security measures used in financial institutions’ information systems. KVH touts the solution as a way to reduce the capital expenditure that renewing existing systems or installing new ones requires. “Hardware replacement is a demand driver for outsourcing to the private cloud as it’s not easy for financial firms to maintain that edge. It would require a lot more technical expertise,” says KVH product marketing manager, Yasutaka Mizutani. Looking to the future, Marsden sees key developments happening in the central securities depository and the bond market which will facilitate settlement. “There’s going to be a change in the withholding tax, which is going to affect bonds, especially the corporate bond world,” he says. “At the moment there is a concept of taxable and nontaxable provisions in Japan, taxed on whether the bond is clean or dirty. That will change… and you no longer need to know whether the bond was clean or dirty at the time [of settlement].” May 2014
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WHO'S WHO
â&#x20AC;&#x153;[We are] 40 times faster than the TSE with minimum latencies of 40 to 50 micro seconds...â&#x20AC;?
AE How did you get started in the financial industry? Masami Hatakeyama: The self-regulatory body the Japan Securities Dealers Association (JSDA) is where my career started. During that time, I spent two years in New York and learned much about the US financial markets, the securities industry and their regulations. In Japan there was a push to ease regulations, I saw this as a potential chance and challenge so I moved to a newly founded online securities company where I was involved in a managerial role. After that in 2008, in order to promote proprietary trading systems (PTS) whose very
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presence was extremely significant in leading the development of the Japanese equity markets, I moved to Japannext.
AE How has trading in Japan changed over the past 20 years? Masami Hatakeyama: The introduction of PTS in 1998 was expected to improve convenience and usability for end investors by promoting competition between the different markets, however the take up of PTS was not progressing. During that time, even in Japan the use of algorithmic trading was spreading. High-frequency trading (HFT) firms were gaining WWW.ASIAETRADING.COM
WHO'S WHO ground and retail online trading was becoming mainstream. This would have been inconceivable without technological progression in the market. At the same time, trading costs and commissions fell dramatically. Events and changes in the US and European markets were inevitably mirrored in Japan, because markets were becoming global. How significant was the Arrowhead upgrade to Japan’s
AE capital markets?
largest market in the world would be at risk.
AE What can be done to support competition and PTSs? Masami Hatakeyama: Unfortunately at the moment, PTS role in improving the market is being severely limited by outdated regulations and the TSE being uncooperative in opening up the market up to fair competition, namely allowing retail margin trading on PTS. Supporting PTS venues’ existence in this market is synonymous with supporting competition.
Masami Hatakeyama: As trading technology has gained greater importance globally, it was an important step in the modernisation of Japanese capital markets, although the nature of technology means that one step is not enough, you need to take one step after another. The increasing reliance on technology also means that implementation and management of said technology should be of the highest standard, and arrowhead, as I’m sure you are aware, has not come without its problems or hiccups, as can be seen over the years with outages and problems in both equity and derivatives markets. Rather than being an argument against over reliance on technology, I think it highlights the need to ensure that the operators of this technology do so with the highest level of competence.
AE Was the OSE/TSE merger necessary for Japan? Masami Hatakeyama: I’m not sure necessary is the right word. Was it advantageous for Japanese capital markets? Yes certainly, looking at trade figures for OSE listed stocks, it becomes apparent that trading volumes increased significantly after the merger; in fact our venue saw a more than proportional increase in some previously OSE listed names, compared with the increase in volume on TSE. Although it does potentially create a situation where there is a decrease in the number of venue options available to trade with and subsequent lack of competition, that is where our role as a PTS vendor comes in.
MASAMI HATAKEYAMA
Asia Etrader spoke with Masami Hatakeyama, Co-CEO SBI Japannext, about the competing for a slice of the biggest pie in Asia. The changing shape of the Japanese market, the need to compete against a major incumbent and the regulatory framework are all challenging SBI Japannext to become more innovative as it fights for growth.
AE Do the PTSs have a place in Japan? Masami Hatakeyama: Perhaps the word from your previous question is more fitting; PTSs are a necessity for the Japanese capital markets. As well as helping to promote liquidity in Japanese capital markets, we also provide much needed competition to the TSE. It is the very presence of PTSs that has prompted the TSE to improve its infrastructure, and reduce its tick sizes. Without this kind of healthy competition, the market could easily become stagnant, fail to keep up with global innovation and Japan’s rank as the leader in Asia and second WWW.ASIAETRADING.COM
AE Will the tick size change at the TSE impact the PTSs? Masami Hatakeyama: Certainly it will affect the trading side of our business. We will be keeping tabs on the development of the market and adjusting our strategies accordingly. It also represents a significant change in the IT and infrastructure ecosystem which Japannext is perfectly positioned for, with our already superior technology and IT expertise, though there will be those market participants who struggle to keep up or simply cannot afford the extra IT/infrastructure costs. May 2014
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WHO'S WHO AE
What is SBIJs strategy to compete, following the TSE tick size change?
Masami Hatakeyama: Firstly the tick size change and its effect on PTS market share serves to highlight that which is wrong with the current Japanese market; unfair regulations/ restrictions which stifle competition. I speak here of the retail margin trading, which can account for over 60% of retail volumes, and which Tokyo Stock Exchange has a firm grip on. Current regulations do not allow for the trading of retail margin on PTS venues. Lobbying to change these kind of out dated regulations which only serve to stifle competition is a very high priority for us. Also tick size, is not the only differentiator of our venue, effective trading costs are up to 30% lower than the TSE, trading commissions are 25% to 30% lower, technology-
wise we are still at the forefront, currently up to 40 times faster than the TSE with minimum latencies of 40 to 50 micro seconds from our premium co-location. In todayâ&#x20AC;&#x2122;s markets, the technology aspect is growing not only in importance but also in complexity, and this is where Japannext is well positioned in the trading eco system to provide low-cost , high-quality and reliable IT, infrastructure build-out and maintenance services to trading participants. One more statistic which stands out, is our 100% [uptime] track record as a trading venue; while the TSE/OSE has experienced several outages from human error or system instability over the last few years alone. As I mentioned earlier, the management of these technologies which we rely upon should be of the highest standard, and market competition in the market is a necessity to weed out any operator who does not place sufficient emphasis on reliability.
â&#x20AC;&#x153;The TSE [is] being uncooperative in opening up the market up to fair competition, namely allowing retail margin trading on PTSs.â&#x20AC;?
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WWW.ASIAETRADING.COM
WHO'S WHO How has the short-selling reform changed the trading
AE environment?
Masami Hatakeyama: Regulations that improve choice and make trading easier are always welcome. In terms of overall volume it is difficult to see much impact at all, though we did see an increasing ratio of short-sell orders after the change, which perhaps suggests that before the change, the complexity of having to check each venue independently for the short sale rule was preventing some orders reaching PTS.
AE What is your view of HFT? Masami Hatakeyama: Accounting for around 60%+ of liquidity on the TSE and other exchanges, I think they are an integral part of the marketplace. The fact that we have several of these participants who closely analyse every tiny movement of the markets also provides a very useful self-regulatory function, where these are the guys who are first to notice and draw attention to any unusual activity in the market place. Much of the negative press given to these participants is unfounded. The reality is that they are providing valuable liquidity in today’s markets.
AE What is your view of dark pools?
“It is the very presence of PTSs that has prompted the TSE to improve its infrastructure, and reduce its tick sizes.”
The extra work is perhaps more time consuming, though I guess it is necessary to restore investors’ confidence in the financial markets and avoid a repeat of previous mistakes.
AE What will trading in Japan look like in five years? Masami Hatakeyama: If regulators fail to allow competition to survive? In five years’ time, Japan could fall as much as 10 years behind other Asian markets. It certainly won’t be a pretty picture and it is not one I want to see. If we are successful in pushing for reform, not only will we see highly efficient capital markets but we could also see market fragmentation on a par with Europe and the US. It will be a very different landscape, as the IT infrastructure demands are constantly growing and changing, and only those who can keep up will survive.
Masami Hatakeyama: They also have a place in the market. Though as to whether they are truly dark, or in fact the best way to minimise market impact is a whole other story in itself. In short, it is perhaps not wise to rely too much on these dark pools alone for minimising market impact, and instead focus on a suitable trading strategy in lit venues. What other aspects of Japan’s market structure could the
AE FSA help develop?
Masami Hatakeyama: Let’s not jump the gun. Firstly we need to address this issue of retail margin trading, to allow competition in the market and hopefully then we will see a natural progression of market fragmentation to around 30% for us in line with the rest of the world. How can Japan compete as a regional financial centre
AE against the likes of Shanghai, Hong Kong and Singapore? Masami Hatakeyama: Japan already has a good standing as the leader in Asia, though to maintain this there is a need as I mentioned to ease regulations and to promote sound competition in the market place which should in turn help keep trading costs down and technology on the cutting edge. Japanese stocks are already attractive to foreign investors, ease of participation and transaction costs are key. Competition from financial hubs like Hong Kong and Singapore will only continue to grow. How are the regulations in the US and Europe affecting
AE you and the Japan trading industry?
Masami Hatakeyama: Though not directly binding on Asian markets, certainly it has added to the mountain of due diligence which needs to be carried out by market participants overall. WWW.ASIAETRADING.COM
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OPINION POLL
ARE WE SEEING THE END OF FRAGMENTATION IN ASIA? Yes, regulation is killing it. Yes, exchange monopolies are preventing it Not sure There was never much fragmentation to begin with No, it takes a long time to devlop
A
sia’s fragmentation story has had just a few bright spots namely in Australia and Japan. Australia has probably been the most affected by the developments with ASX offering varying order types and Chi-X gaining significant market share. Japan, though a much bigger market, has had on-going reform but has yet to reach its full potential. But for the most part exchange competition in Asia has really been a non-event. Chi-east closed after just 18 months, ASIC required brokers in Australia to send orders to the exchange if there was no price improvement and Hong Kong looks set to change its ATS rules too. Is this the end of fragmentation in Asia or just a slow rise in the regions maturing market structure? The number one response with 31.43% of those who responded believe fragmentation is dead because the exchanges won’t allow it and another 22.86% who believe regulation is the cause for its demise. With more than half of the industry believing that competition and choice won’t materialize this bodes ill for the development of Asia’s capital
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markets. Competition has brought innovation and savings to customers in markets that have embraced it. Australia is a prime example. On the flip side of the coin are the 20% who still see a bright future for fragmentation arguing that it takes a long time to develop. We are inclined to support this belief. For whatever reason that competition remains elusive at some point the benefits will outweigh the costs. Interestingly, 14.29% didn’t think there was much fragmentation to begin with so this poll was not worth conducting at least from this section of the group. There is merit in that view as well. Broker dark pool volume is less than 2% in Hong Kong and not much more in other markets. Outside of Japan and Australia they are correct. Last but not least was the ‘not sure’ group at just 11.43%. Time will tell whether or not fragmentation in Asia is fading or just very slowly developing. WWW.ASIAETRADING.COM
WORD ON THE STREET
SHOULD ASIA BE CONCERNED WITH ‘FLASH BOYS’ AND HFT?
David West Arjen Gaasbeek Managing Director, GAAz QT Asia should not be too concerned with Flash Boys and HFT as the market structure in Asia is not very sensitive to, what some call, HFT ‘abuse’, as described in Michael Lewis’s ‘Flash Boys’. In the US, HFT firms took advantage of regulation prescribed in Reg NMS, on the requirement of an NBBO, by having a faster connectivity to the 12 exchanges (and several alternative platforms) than the exchanges themselves. By making use of this, they could outrun a large order in a specific stock that was going to be executed in parts on the several exchange platforms. This kind of market structure is in Asia far more limited to maximum a few alternative platforms per country and I do not see a pan-Asian expansion happening either as the national markets are fairly fragmented and all have their own rules, regulations, transaction costs and often stamp duties. This does however not fully take away the very slim chance of algo’s going haywire, and potentially causing a flash crash or at least a large loss for the firm in question. Regulation on circuit breakers and potentially a large order per second limit could, for the greater part, take away this risk. For the rest, Algo- and HFT shops should just get the freedom to do why there were set-up in the first place: making profits by arbitraging away tiny price-differences in related products and making markets more efficient and liquid at the same time.
Shaun Clarke Regional Product Manager, APAC, Orc It’s important not to take the recent HFT debate at face value alone and be mindful of the motivations of the parties involved in the discussion so any knee-jerk reactions are limited. In APAC, the level of competitiveness across exchanges and fragmentation is much lower than in EMEA and North America. The issues discussed in Flash Boys, whether you feel that they good or bad for the market as a whole, do not impact APAC to the same extent today, but likely will in the future. The ability to reach new markets and trade fast is not a new concept, the challenge for all participants is to understand the implications this brings and continue to evolve with the technology demands that are driving markets. Working with global vendors can help to ensure that you have access to the latest tools and the visibility on market trends helping you continue to be correctly positioned in the market as technology and regulation continuously develops around you. The concern we have is a trading landscape where market participants reduce their latency by bypassing regulatory checks put in place to safeguard all investors.
WWW.ASIAETRADING.COM
Managing Director, ABN AMRO Clearing Hong Kong Ltd HFT’s are primarily liquidity providers / market makers. These intermediaries step in the middle of investors’ trading strategies and in this process they serve a true purpose: they facilitate price discovery. The majority of the deployed HFT strategies will create liquidity and reduce spreads, which has in turn reduce the costs of trading. Hence HFT’s, or liquidity providers, have a very sustainable function in global capital markets. Liquidity Providers cannot do their job, make markets/provide quotes, without actually knowing what the current market is and this can only be achieved by deploying low latency technology. With this information they make trading decisions as fast as possible using powerful computers. A firm willing to invest in speed and technology cannot be seen as being“ripping off investors”; Investors today see prices trading through their online trading account at their (retail) broker. If broker XYZ has a quicker online platform than broker ABC, is that unfair competition by broker XYZ? ABN AMRO Clearing shares the opinion of its home regulator, the AFM; “The further development of technology and automation of trading in financial instruments would appear to be an irreversible process. The market structure that has contributed to the growth of HFT is also here to stay. The most sensible course for policymakers and regulators therefore is to devote their efforts to further improving the existing market structure.”
Andy Woodhouse Managing Director, RTS Realtime Systems When the Flash crash happened May 6, 2010, it was clear Asia took notice. It’s also fair to say that, intellectual interest aside, some exchanges acted on it and took it more seriously than others. Many exchanges in APAC weren’t really HFT ready and still aren’t. Earlier that year Arrowhead went live in Japan and so they took serious notice as to the outcomes. India markets also had more upgrades to speed up their exchanges and had their own flash crash on NSE in October 2012 although more due to human error than “flash boys” per se. There were a lot of questions from Chinese exchanges and regulators as to why and how such events could occur. Till now their market isn’t HFT ready and indeed many rules are in place to dampen rather than encourage such trading activities. On January 1st 2014 the SFC (HK regulator) also introduced various guidelines and rules around algorithmic trading just while their market is in a major Orion upgrade to become much quicker. Many markets like Thailand, Australia, Singapore, still however continue to invest in newer technologies that process faster and thus support or are more attractive to HFT players. So in summary competition between the exchanges pushes them to become faster and no doubt they will continue to introduce rules and guidances to ensure a flash crash doesn’t eventuate in Asia. May 2014
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CONTENTS
A SNAPSHOT OF THE ASIA FUND INDUSTRY * Countries: JPY, KOR, HKG, SGP, TWN
ASSET CLASSES IN ASIA net assets, net flow, growth
NET FLOW
GROWTH
10%
10%
5%
5%
0
0
-5%
-5%
-10%
-10%
-15%
-15%
-20%
-20%
-25%
-25%
-30%
-30%
-35%
-35%
Source: EY Global Fund Distribution
Allocation
Alternative
Equity
Fixed Income
Money Market
MARKET SHARE PER ASSET CLASS UCITS vs. other open-ended funds in Asia
47% 40%
38% 21%
7%
5%
11%
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13%
1%
UCITS Allocation
17%
OTHER OPEN-ENDED FUNDS Equity
Fixed Income
Money Market
Others
WWW.ASIAETRADING.COM
CONTENTS
Top 10 strategies in Asia In terms of net flow UCITS and Non-UCITS
Other open-ended funds Net flow 2013
UCITS Funds Net flow 2013 Allocation
High Yield Fixed Income
High Yield Fixed Income
Asia Money Market
Cautious Alocation
Real Estate Sectory Equity
Global Equity Large Cap
Cautious Allocation
Moderate Allocation
US Fixed Income
Europe Equity Large Cap US Equity Large Cap Blend
Consumer Goods & Services Sector Equity Other Fixed Income
Flexible Allocation
Europe Equity Large Cap
Convertibles
Japan Money Market
Europe Equity Mid/Small Cap
Trading Tools
0.0
0.5
1.0
1.5
0
2.0
2
USD billions
4
6
8
USD billions
Bottom 10 strategies in Asia In terms of net flow UCITS and Non-UCITS
Other open-ended funds Net flow 2013
UCITS Funds Net flow 2013
-2.0
-1.5
-1.0
-0.5
US Fixed Income
Miscellaneous
Emerging Markets Fixed Income
Global Fixed Income
Emerging Markets Equity
Asia Pacific Fixed Income
Asia ex-Japan Equity
Korea Equity
Asia Fixed Income
Emerging Markets Fixed Income
Other Europe Equite
Emergin Markets Equity
Greater China Equity
Greater China Equity
India Equity
Aggressive Allocation
Latin America Equity
Japan Equity
Engery Sectory
Global Equity
0.0
-40
USD billions
-30
-20
-10
0
USD billions
Market share per investment strategy 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%
2%
3%
1%
2% 21%
41%
42%
2% 8%
4%
28%
38%
18% 3% 18%
10%
8%
8% 5%
14% 57%
45%
52%
41%
Others Money Market Fixed Income Allocation Equity
28%
KOR
JPN
TWN
HKG
SGP
Distribution Markets WWW.ASIAETRADING.COM
May 2014
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EQUITIES exploring how to use them more and more. Koichi Yada
Managing Director, General Manager of Marketing Division Rakuten Securities, Inc
Steve Shepherd
Head of Asia Pacific CFM Asia KK
Junya Umeno
Director Blackrock Japan Co., Ltd.
Satoshi Kashihara Director, Japan Electronic Trading Bank of America Merrill Lynch
Steve Shepherd: That’s a hard question. We are always happy to see an increase in volume; in general, it’s a good thing. But certainly an increase in the volume of retail traders is good for what we do because retail traders tend to be a little counter to what institutional traders are, so they create a little more dispersion in the market. Dispersion is a good thing. We trade a lot of different markets around the world and Japan is one of them. We see trading variations and where these increase dispersion, that’s good.
AE: How has the short sale uptick rule
Japan’s Trading Revolution Deregulation and the Rise of Retail Investors
ASIA ETRADING HELD ITS 6TH FORUM 19 FEBRUARY, 2014 IN TOKYO TO EXAMINE THE LATEST DEVELOPMENTS IN JAPAN’S MARKET STRUCTURE. HERE IS AN EDITED TRANSCRIPT OF THAT EVENT.
Asia Etrading: Are retail traders becoming more sophisticated by using algorithms to trade? Koichi Yada: Once the market starts becoming more active, of course things speed up. The whole process of trading gets faster affecting retail customers the most. They want to use algorithms to trade to keep up with the rapidly changing markets and are
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changed your trading style? Has it been beneficial for the market? KY: The change in the short-selling rules has been positive. Short-selling had been increasing. However, when considering the tick change individual investors are just looking at the market price rather than trading. For example, 9984 Softbank, WWW.ASIAETRADING.COM
EQUITIES which is an individual investors’ favorite and quite expensive has changed to 1yen per unit, it used to be 10yen per unit. Normally, retail customers just look within eight ticks so that means if it is trading at 7000 yen, they will only look up to 7007 yen. I don’t think they are putting orders on the board, but I think they are looking at the order book depth. In terms of not placing orders, it appears to be working negatively. We should do more research on this and more due diligence on the impact to the market. SS: It hasn’t changed our trading style. We trade in many markets, and every market has its peculiarities. Some have very strong restrictions on short selling, and there are many flavors of uptick rules. But it’s an improvement for the industry, and overall it makes life easier in this market.
to this story. In the short term, the data we’ve seen tell the first part. It’s a worrisome story if you are a PTS investor, a PTS owner or manager, but in the long term, I think there really is some value there. It needs to come out though as real value, as opposed to just “we’re better because we have a better tick size.” In the longer term, we may see it turn around, though it will be painful in the short term as a key advantage has been taken away. In Japan the PTS volume is not really sufficient for us yet. That’s always an issue for institutional investors, with PTS or new venues of any kind: we always say, “let’s wait until there’s more volume,” but of course if everyone did, there wouldn’t be more volume.
AE: What impact do you foresee to the PTSs and broker darkpools regarding the tick size change? Satoshi Kashihara: There has been a big change in the market
share of PTS. Before 14th January, the TSE had a 90% or so of market share, but it has changed because fewer better prices are being found at the PTSs and that flow has moved back to the primary taking market share from the PTSs. TSEs market share is around 96%-97%. Here at BofAML we saw our broker darkpool volume drop from 21% to 17% overall, which is not a lot of reduction as that of PTS market share.
AE: Do you still see value in accessing PTS? SS: We use PTSs a lot elsewhere in the world. Here in Japan, I think it’s interesting because there are perhaps two stages WWW.ASIAETRADING.COM
Junya Umeno: About PTS, we are not really increasing their use. What we are really doing is the DMA part by connecting to brokers. Price efficiency and fare prices, are increasing and probably will continue to increase.
AE: We’ve seen exchanges consolidate, and short sale reform, and tick size changes across all markets. Is Japan a difficult market to trade? Is there more that needs to be done, or is it a trading utopia? May 2014
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EQUITIES
SS: I don’t think Japan is any more difficult to trade than any other market; every market has its challenges. We’ve talked about some of the recent changes today - the unwinding of certain regulatory policies that have impeded volumes, competition and probably innovation. The more reform that can happen, the better it will generally be for the market overall. If you have a smaller tick size you tend to get better execution and greater likelihood of better price discovery and so a fairer price. There’s also room for improvement with best execution type regulations here too. But on a bigger level, markets don’t exist in a vacuum. Lots of us have thought at times that they did. Back in the Internet Bubble, markets appeared to have a life of their own, and usually when we see that happen, it turns out to be a bubble. But underlying the markets are actual companies. I think what will help the
manipulation or insider trading, in the Japanese market. What we think the best is that the authorities should reinforce the monitoring function, they should start censoring certain individuals and allow for effective monitoring by at the firm level and at the exchange.
AE: Are the current algos that you are using at BlackRock helping you improve performance, and are you noticing any issues because of the market structure changes? JU: There are many reasons why we use Algo, but the main driver is operational efficiency. We can effectively let two traders deal with 2000 transactions that we couldn’t do manually. Cost savings and efficient execution are the main drivers.
AE: The HK SFC has made broker/vendor algorithm testing and training mandatory. Do you think that makes sense? Do you see any limitations?
Japanese market the most is improvement in the overall economy, which would allow companies to see the benefits of inflation and trade activity. That may sound odd for a firm that trades a lot on statistical models, because we don’t always trade on pure fundamentals. But even statistical models depend to a degree on fundamentals that drive prices and volumes. But how do you get there? I think we’ve seen some progress with Abenomics, and attempts to get the economy going, from attempting to set the financial and monetary side of the economy straight, to dealing with labor regulation. For example, Germany a number of years ago had similar labor regulations to Japan, which were cleaned up to the benefit of the economy.
SS: We use only our own algos for execution, and we definitely test them thoroughly. As the market moves to become more focused on electronic trading, much more of the execution is algo driven even for people trading purely discretionary portfolios. Therefore it makes sense that people understand what they are doing; we’ve seen some high profile issues in the market that quite possibly came about because of the misuse of, or bugs in, algos. I think too much is blamed on that, but that said, it makes sense to have checks and balances
JU: I completely agree with Steve. If this situation keeps going, from the point of fairness, it is difficult that we can keep it fair, especially we have some bad news such as the recent market
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WWW.ASIAETRADING.COM
EQUITIES in place. That said there’s also the possibility of regulators overstepping.
AE: Should Japan’s FSA follow the HK SFCs algo policy? KY: About algo testing and training before trading, I have to study more. But I think there are very few who are using algos among customers who are retail investors. They wouldn’t know how to use them to begin with. For those who have graduated to algo use we don’t see that there is much interest for education and training. We will have to get more information, but we don’t really know.
AE: Should people be certified to use algos?
use dark pool.
AE: Do you see best execution rules coming to Japan any time soon? Does Japan need these rules? SS: Why does best execution matter? Best execution rules tend to be there so people have sufficient confidence in the markets to induce them to go and trade, especially retail investors, who form a very important component. If they are not confident they are getting the best price, they are likely to trade a lot less, or worse still for Japan, they’ll continue trading, but in a different region, under a different regulatory regime. From that perspective, anything that will improve the confidence of investors, especially
JU: It definitely introduces more costs to the trading space. It is okay if the costs don’t affect us. But at some point the cost will trickle down to the end client. The benefits of using simple fat finger limits would go along way to protect the investors and the integrity of the market.
AE: ASIC has recently made changes to its broker dark pool regulations where the broker must provide a price improvement to cross on its darkpool, otherwise the order must go to the primary or Chi-X. Does this make sense? Is it the right decision for the industry?
smaller ones, is likely to solidify volume in the market. JU: We have to think about whether or not it should be mandatory or even makes sense. Observing what is happening to protect investors in other markets like the US and Europe and seeing if that makes sense in Japan. We simply can’t make rules that will affect the market microstructure without considering the consequences. In Partnership with:
JU: I think that is okay from the point of view of price. If you say there is more liquidity by using dark, I think it is okay to use dark. Both increased liquidity and better price are the key when we WWW.ASIAETRADING.COM
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FRAGMENTATION FOOTPRINT APRIL 2014
FRAGMENTATION
Highlights APRIL 2014 Turnover
Market Share
Volume billion
Billion USD
Nikkei 225%
shares
Trades
Avg Trade
Average Trade
Size USD
Size Shares
TSE
$450.47
92.10
49.98
35,893,545
$12,550
132
SBIJ
$19.35
5.20
3.19
4,281,479
$4,519
745
2.70
1.29
1,940,226
$4,619
664
Chi-X Japan $8.96
Japan
Figure: 1
ChiX JP MarketShare ShareValue Value%% Chi-X JPNikkei Nikkei 225 Market 4.5 4.0 3.5 3.0
Proprietary Trading System (PTS) resilience would characterize the preceding weeks of the Small Tick Pilot Program (STPP) the Tokyo Stock Exchange (TSE) initiated 14 January. Initially, PTS market share (figure 1 and 2) was hit hard declining to 5.8% in aggregate from a pre-STPP high of nearly 10% but has since recovered from its lows to regain 8.4% (ChiJ â&#x20AC;&#x201C; 2.7%,
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2.5
Nikkei 225 Market Share Value %
2.0 1.5 1.0 May 2 2013
Jul 12 2013
Sep 20 2013
Nov 29 2013
Feb 14 2014
Apr 25 2014
Source: Chi-X Japan website
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FRAGMENTATION Figure: 2
Figure: 6
TSE TSEAverage AverageTrade TradeSize SizeUSD USD
SBIJ Nikkei 225 Market Share Value % 7.50
19,000
7.00
18,000
6.50
17,000
6.00
16,000 15,000
5.50
TSE
14,000
5.00
Nikkei 225 Market Share Value (%)
4.50 4.00 3.50
13,000 12,000 11,000 10,000 2013-05
Nov 11 2013
Dec 16 2013
Jan 20 2014
Feb 24 2014
Mar 31 2014
2014-02
Figure: 7
Figure: 3
7.0
6.5
6.0 Average PI (bps)
5.0
4.5
Jul 12 2013
Sep 20 2013
Nov 29 2013
Feb 14 2014
Apr 25 2014
Source: Chi-X Japan website Figure: 4
SBIJ Top Stocks by Market Share
SBIJ Large Cap Average PI (bps) 7.50 7.00 6.50 6.00 Average PI (bps)
5.50 5.00 4.50 4.00 May 7 2013 Jul 16 2013
Sep 23 2013
Dec 2 2013
Feb 10 2014
Apr 21 2014
Source: SBIJ website Figure: 5
7,000 6,500 6,000 5,500 Chi-X Japan SBI Japannext
4,500 4,000 3,500 3,000 2013-08
2013-11
2014-02
Symbol 8411 3401 5202 4004 5007 9202 3880 4208 2875 5801
% Primary PI (bps) Value (JPY) Name 21.69 25.49 86,084,620,400 MIZUHO 15.37 23.87 7,000,964,600 TEIJIN 29.98 23.73 6,016,458,400 NP-SGLS 29.9 21.27 5,274,783,500 SHOWDEN 18.61 21.18 2,402,665,100 COSMOIL 18.91 18.85 8,878,497,900 ANA 10.29 18.67 951,085,800 DAIO-PP 22.53 18.41 5,300,128,300 UBE-IND 5.33 4,796,103,000 17.88 TOYOSUI 15.19 17.71 5,066,315,500 FURKWAE
ChiX J Top 10 Large Cap Stocks by Market Share
PTS Average Trade Sizes USD
5,000
% Primary PI (bps) Value (JPY) Name 21.69 25.49 86,084,620,400 MIZUHO 6.6 9.96 70,428,730,040 MUFG 4.2 9.69 31,005,960,500 HITACHI 7.52 7.6 29,543,156,400 MAZDA 14.46 13.25 NSTEELSM 25,400,909,600 7.45 10.72 25,642,819,860 YAHOO-J 4.23 2.12 27,594,836,164 NIKKEILV 8.73 10.53 22,898,769,000 TOSHIBA 1.68 1.2 27,842,078,700 SOFTBNK 5.05 4.95 NOMRAHD 19,962,979,330
Symbol 9202 8411 4188 8332 9532 6861 9531 5401 6702 5020
Name ANA MIZUHO MTBCM HD YKHA-BK OSK-GAS KEYENCE TKO-GAS NSTEELSM FUJITSU JX
PI (bps) 16.7 21.3 7.9 5.0 7.0 1.3 5.7 13.7 4.7 6.0
% Primary 7.01 6.81 5.91 5.85 5.24 5.18 5.10 5.08 4.47 4.43
Source: Thomson Reuters Equity Market Share Reporter
WWW.ASIAETRADING.COM
Source: SBIJ April Statistics Report
5.5
Symbol 8411 8306 6501 7261 5401 4689 1570 6502 9984 8604
Source: SBIJ April Statistics Report t
SBIJ Top Stocks by Turnover
Chi-X JP Average PI (bps)
2013-05
2013-11
Source: Thomson Reuters Equity Market Share Reporter
Source: SBIJ website
4.0 May 2 2013
2013-08
Source: ChiX J April Statistics Report
3.00 Oct 7 2013
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FRAGMENTATION SBIJ – 5.7%) of total equity trading on Japan (ex-auction). The first stage of the STPP comprised of names within the Topix 100 index, Japan’s biggest companies, with the second stage commencing 22 July to include the entire universe of securities. Given that PTS trading is roughly 50% of large caps names we don’t expect to see much impact to market share after phase two. We believe the worst has passed for PTSs. Overall trading turnover has continued to trend lower in April hitting a one year low of US502 billion (cum TSEauction) down 12.75% from the previous month according to Thomson Reuters Equity Market Share Reporter. That wasn’t the case for SBIJ however, as it saw turnover value increase 4.5% to US19.35 billion though on fewer trades down 1.3% month over month. Lower liquidity brought on by lower retail participation had allowed for some better trades in the PTSs. We can see that Price Improvement (PI) had increased (figure 3 and 4) in the weeks after STPP showing that PTSs do have value and are viable venues in which to trade. PI has all but returned to their average values this past month. It’s as if the STPP never occurred. Perhaps the buy-side was just waiting to see what the impact was going to be, adjusted their algorithms and have returned to executing in alternatives. Turning to average trade sizes we can see (figure 5 and 6)
that across all venues they are continuing lower indicative of computer driven trading with dollar value and shares per trade decreasing. It also suggests share prices are lower which has been the case. The TSE has the largest average trade size in Asia but given the trajectory of its decline that may not be the case by the end of the year. Some further study on turnover velocity will be in order. On that subject we look to the top securities traded on the PTSs (figure 7) as good candidates. Mizuho (8411) in particular as it trades on both PTSs with SBIJ seeing as much as 25% of ADV and Chi-X approaching 7% of ADV. It’s interesting to note that price improvement for this name is virtually the same on either venue slightly over 21bps. It would seem there is lots of alpha in that trade. Mizuho (8411) and MUFG (8306) are the two largest names executed on SBIJ executing almost 7.5% of total trading on the PTS. ChiJ didn’t have a list of its top securities by turnover but listed ANA (9202) as its top name by PI with 7.01% of market share saving 16.7bps per trade on average. SBIJ lists ANA in its top 10 by market share (18.85%) with a slightly better price improvement at 18.91bps. It will be interesting to see if this top 10 list on each venue converges to produce a similar result. For the most part it hasn’t with each venue executing in different names.
Highlights APRIL 2014 Turnover
Market
Volume billion
Billion USD
Share %
shares
ASX
$47.83
87.90%
20.83
Chi-X Australia
$6.59
12.10%
4.31
Avg Trade
Average Trade
Size USD
Size Shares
12,600,451
$3,796
1,653
2,458,432
$2,681
1,755
Trades
Australia Figure: 8
Chi-X Chi-X Aus AusMarket MarketShare Share%% 20.00
Asia’s fragmentation darling Australia leads the region in venues to execute different kinds of trades by different kinds of traders. Chi-X Australia’s (ChiA) market share for April was 15.36% with a high of 17.20% held during week 2 (figure 8) on turnover of A$6.59 billion. Our calculations with Thomson Reuters Equity Market Share Reporter (EMSR) showed a market share of 12.10% and ASX reported 14.70% for ChiA. Month over month trading turnover on EMSR showed ASX was down 19% to US58 billion (cum auction) and ChiA just 4% to US6.6 billion. It appears that retail trading had dropped off for the Easter holiday and is likely the reason for the greater percentage decline at ASX.
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18.00 16.00 14.00 12.00 Chi-X Aus Market Share %
10.00 8.00 6.00 May 3 2013 Jul 12 2013
Sep 20 2013
Nov 29 2013
Feb 7 2014
Apr 17 2014
Source: Chi-X Australia website
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FRAGMENTATION Figure: 9
Price Improvement Chi-X Australia From May 2013 45.00
40.00
35.00
30.00
% Trade PI Average PI (bps)
25.00
20.00
15.00 May 3 2013
Jul 12 2013
Sep 20 2013
Nov 29 2013
Feb 7 2014
Apr 17 2014
ChiA has close to 35% of trades with price improvement averaging approximately 25bps (figure 9) which seems to be at the low end of its longer-term average. ChiJ, interestingly reported a PI of just 5.65bps that is nearly 1/5 less than in Australia. The smaller Aussie market has less liquidity than Japan and thus wider spreads to realize better trades in. SBIJ reported a PI of 7.8% in April. Looking to average trade size, there was a minor divergence with the primary increasing slightly more to just shy of US3,800 and ChiA to US2,681 (figure 10). Given that the markets tended to be higher this makes sense even though volume was down by 25% in April month over month on the ASX and 10% on ChiA. As mentioned above the Easter holiday seems to have been a factor particularly for retail trading on the lower trading volumes as trade counts declined 19% on ASX but only 6% on ChiA. Overall, each venue appears to have found a price range for a typical order.
Source: Chi-X Australia website Figure: 10
ASX and Chi-X Australia Average Trade Size USD 4,500
4,000
3,500 ASX
3,000
Chi-X Aus
2,500
2,000
1,500 2013-05
2013-08
2013-11
2014-02
Centre Point, the ASXs anonymous venue reported another record in March of A$5.7 billion though on just 1.7 million trades. This accounts for 6.2% of total ASX trading and 28.5% of dark order flow overall. Itâ&#x20AC;&#x2122;s worthwhile noting that in September 2013 this venue saw 2.1 million trades on turnover of A$4.6 billion. It seems average trade size in Centre Point has been increasing and currently stands at approximately A$3,300. Of the top 20 block trades 19 were over A$1 million with two over A$2 million. Merrill Lynch, UBS and Deutsche Securities round out the top 3 brokers by value executed on Centre Point with A$1.56 billion, A$1.26 billion and A$1.2 billion, respectively. Of the brokers executing A$100 million or more on Centre Point Virtu Financial had the best PI at 23.0bps, Pershing next at 18.7bps and Commsec rounding out the top three with 17.9bps. Instinet had the smallest trade size at 1,377 shares and Liquid Capital the largest with 12,487 shares.
Source: Thomson Reuters Equity Market Share Reporter
Figure: 11
Chi-X Australia Top Stocks by Market Share % Symbol DJS QAN FXJ WRT DXS
Share % 49.60 34.29 29.88 28.36 28.33
Value A$ 2,844,080 2,038,922 2,373,839 5,088,278 2,087,231
Avg PI (bps) 14.16 23.33 31.68 18.69 27.02
The usual suspects can be found in the top stocks by value (figure 11) on ChiA. All can be found on Centre Point s top 10 list as well. PI on each venue is relatively the same though slightly better on ChiA. Note: Values calculated for the fragmentation report donâ&#x20AC;&#x2122;t include primary auction data and will vary from the values found in our Asia equity trading recap which does include auction data.
Chi-X Australia Top Stocks by Value Symbol ANZ WBC TLS BHP FMG
Value A$ 19,175,403 18,213,887 17,895,744 16,561,149 12,686,044
Share % 15.27 13.34 21.72 13.04 17.45
Avg PI (bps) 2.33 2.30 11.11 2.1 15.57
Source: Chi-X Australia Weekly Trading Report April 24, 2014
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FRAGMENTATION
MARKET FRAGMENTATION HIGHLIGHTS FOR JAPAN In the last issue we discussed the impact of the changes in tick sizes introduced by Japan Exchange Group (JPX) at the beginning of 2014. The initial drop in fragmentation levels we observed at the start of the year has been maintained throughout the first full quarter, as shown in Chart 1. While this new programme is currently limited to the TOPIX stock universe, there has also been a drop in FFI levels for the Nikkei 225, albeit much less pronounced (Chart 2). However, looking at the single stock level, we can see that the respective market shares of the PTSs (Chi-X and SBI Japannext) remain stable in some of the most liquid stocks. Table 1 shows the most fragmented of these stocks for March 2014. Interestingly, looking at the stocks with the highest value traded across
Average Ffi For A Selection Of Average for a selection of 30 TOPIX 100 30 Topix 100FFIConstituents Chart 1 constituents Fidessa Fragmentation Index
1.35
Nikkei 225
1.3 1.30 1.25 1.25 1.2 1.20
both primary and alternative venues, there is a significant overlap. Mizuho, for example, traded 17% of its turnover on SBI Japannext and 5.2% on Chi-X Japan in March. One possible explanation for this overlap could be that cross-venue arbitrage strategies are at work (Table 2). Following the sharp increase in trading velocity on the TSE in the middle of 2013, levels fell back and continue to remain stable in 2014 (Chart 3). Similarly, at a stock level, liquidity remains stable in spite of price fluctuations as seen in the Mizuho and Mitsubishi UFJ examples (Charts 4 and 5).
TOP STOCKs BY TURNOVER LIT (March 2014) Rank 1 2 3 4 5
1.15 1.15
1.35
1.1 1.10
1.3
1.05 1.05
1.25
table 2
FIM Description 8411 MIZUHO FINL GP NPV 8306 MITSUBISHI UFJ FINANCIAL GROUP 6501 HITACHI 5406 KOBE STEEL 5401 NIPPON STEEL Average FFI for a selection of 30 TOPIX 100 constituents
tse
1.001 Mar'12
Jun'12
Sep'12
Dec'12
Mar'13
Jul'13
Oct'13
Jan'14 Chart 1
Chart 2
Average FFI for a selection of 30 TOPIX 100 Fidessa Fragmentation Index constituents Index Fidessa Fragmentation
Chart 2
1.35
Nikkei 225
1.3 1.30
chart 3 Turnover velocity
1.2 3 2.5 1.15 2 1.5 1.1 1 1.05 0.5 0 1 Mar'12
Jun'12
Sep'12
Dec'12
Mar'13
Jul'13
Oct'13
Jan'14 Chart 1
1.25 1.25
Liquidity levels: Mizuho
1.20 1.2
Chart 4
1.15 1.15 1.101.1 1.05 1.05 1.00
1 Mar'12
Jun'12
Sep'12
Dec'12
Mar'13
Jul'13
Oct'13
Jan'14 Chart 1 Chart 2
Source: Fidessa
Top 10 stocks by FFI (March 2014) Rank 1 2 3 4 5 6 7 8 9 10
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FIM 3401 9202 8411 4208 4004 3101 2768 5202 8304 5801
Asia Etrader
Description TEIJIN LTD NPV ALL NIPPON AIRWAYS NPV MIZUHO FINL GP NPV UBE INDUSTRIES NPV SHOWA DENKO KK NPV TOYOBO CO NPV SOJITZ CORPORATION NPV NIPPON SHEET GLASS NPV AOZORA BANK NPV FURUKAWA ELECTRIC NPV n
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table 1 FFI 1.74 1.69 1.66 1.61 1.60 1.58 1.54 1.53 1.52 1.51
Liquidity levels: Mitsubishi UFJ
Chart 5
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EQUITIES
RECAP MAR-APRIL 2014
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EQUITIES
Asia Exchange Trade Count April 2014 Total: 317,749,580 (-5.99%)
* Data in brackets are change from March 2014
Source: Thomson Reuters Equity Market Share Reporter
Asia Exchange Average Trade Size April 2014 (USD)
* Data in brackets are change from March 2014
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EQUITIES
Liquidity 30.000 25.000
Spread (bps)
20.000 15.000 10.000 5.000 0.000
MSCI Asia Pacific Ex JP
Hang Seng
TaiWan TAIEX
NSE S&P Nifty
S&P/ASX 200
Kospi 200
Straits Time
Deutsche Bank Quantitative Products One
Market Impact 30.000 25.000
Impact (bps)
20.000 15.000 10.000 5.000 0.000
Hang Seng
NSE S&P Nifty
Kospi 200
Parent Order Size (%ADV)
Value Share Trading April 2014 (USD)
Source: Thomson Reuters Equity Market Share Reporter
Total 1,585,611,676,379 (-13.66%)
* Data in brackets are change from March 2014 WWW.ASIAETRADING.COM
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POST TRADE
T
he Australia Securities Exchange (ASX) is gathering responses to its consultation paper on cutting the settlement cycle to T+2 from T+3. It will have reverberations if implemented. While larger domestic institutional and global players are well equipped for the change, smaller asset managers and retail brokers are likely to have some operational hurdles to overcome in the new world. Australia has been operating on a three-day cycle since 1999. Other Asia-Pacific markets such as Hong Kong, Taiwan and Korea who have already hopped on the T+2 bandwagon. Singapore Exchange (SGX) is set to make the move next year while Europe is preparing for the January 2015 implementation
Tony Freeman, executive director of industry relations at financial services technology company Omgeo, agrees, adding, “I definitely think it will happen because ASX wants to be in line with global standards, especially as Singapore is moving to T+2 and Hong Kong already operates on that basis. ASX is also making an assumption that it will become standard in the US and Europe. Most broker dealers are equipped because they already trade in different settlement cycles while custodians will need to re-engineer some of their processes as 24 hours will be taken out of the system.” Denis Orrock, chief executive of Capital Markets at GBST, an Australia-based securities transaction and fund administration
AUSTRALIAN MIGRATION TO
T+2 PROMISES SAVINGS
Shorter settlement cycle will deliver lower costs, although re-engineering processes will impact smaller firms.
“It will put a pinch on people in the operational chain as there is always a challenge in doing things in two days that you did in three...” James Cunningham
deadline of the Central Securities Depositories Regulation (CSD-R) which aims to harmonise European settlement cycles. Holdout markets include the US, Canada, Japan and New Zealand but market participants do not expect they will be swimming against the tide for long - leading US mutual fund trade body, the Investment Company Institute recently endorsed an industry initiative led by The Depository Trust & Clearing Corporation (DTCC) and the pace is gathering momentum.
technology firm, does not think it will be a problem from a technology perspective. ”The biggest challenge will be the remodelling of the back office and workflow processes and from the German experience, they kept the same processes but hired more staff. The international and larger players are already working towards a standardised global model but will have to adapt to local specifics. I think it could be more challenging for retail brokers because they will have to change their business models. Some will work longer and harder to meet the new requirements while others will look at the opportunity as a way to reinvent themselves and outsource the work to a third party.”
“The general consensus in Australia is that wheels will be set in motion later this year although estimates for the T+2 switch to be pulled range from the last half of 2015 to the first quarter of 2016. Overall, the industry in Australia sees this as a good move and one that is line with international standards,” says James Cunningham, director external and regulatory affairs, at custodian BNY Mellon. “It has been a topic in Europe and US for the past five years and it seems to be moving in one direction. It will put a pinch on people in the operational chain as there is always a challenge in doing things in two days that you did in three but there are clearly benefits such as global consistency.”
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Director external and regulatory affairs, BNY Mellon
Drilling down into more detail, a recent white paper entitled, ‘Introducing T+2 for the Australian Equities Market’, issued by GBST in conjunction with the Stockbrokers Association of Australia, shows that institutional brokers will need to streamline post-trade processing while retail brokers will be required to find more efficient methods of collecting funds. Those that operate on different time zones will also feel the effect because an ability to agree transaction details within 24 hours of execution will increase failure rates and resulting WWW.ASIAETRADING.COM
POST TRADE funding costs. The paper notes that the middle office will also feel the strain as it is mainly responsible for sending, receiving and processing institutional client allocations, confirmations and affirmations. However, it will not require a major overhaul. The most notable change will be to reduce timeframes for preparing the daily settlement batch. This will require further automation of posttrade processing to ensure that the required instructions to buy-side settlement agents can be issued early enough to allow matching with the sell side prior to the cut off time for the scheduled settlement date. The inability to do so could result in fees, fines and lost revenue.
“I definitely think it will happen because ASX wants to be in line with global standards...” Tony Freeman Executive director, Omgeo
regime. “It is quite normal for a firm to consolidate its FX activities in one location, for example, in London or New York. There is more flexibility in a T+3 environment because fund managers have an extra day window. In the future they will need to do their FX transactions in real time which is why it is important for Australian fund managers to have a look at where and how their FX trading is taking place.” Although costs of implementation are not yet quantifiable, Orrock does not believe they will come close to projected figures for the US contained in a report by Boston Consulting Group in 2012, which estimated US$4.5 million for institutional brokers, US$4 million for retail brokers and custodians, and
“Some will work longer and harder to meet the new requirements while others will look at the opportunity as a way to reinvent themselves and outsource the work to a third party.” Denis Orrock Chief executive, GBST
For example, delays in agreeing and confirming buying client instructions could expose the broker to funding the entire value of the transaction. In addition, failure to meet cash settlement obligations is considered a default by the central counterparty (CCP) and could lead to significant penalties up to and including exclusion from the market and loss of participation. Moreover, not being able to schedule selling client settlements could impose additional costs in either fail fees or securities borrowing costs. They would, however, be based on a relatively small proportion of the failed settlement value rather than the full cost of a failed buy settlement. Cunningham adds, “The two major challenges we see are with same day affirmation between the broker and fund manager as well as the need to improve and enhance settlement process at the CSD. It is not an issue at the CSD level because they can all take instructions on a T+3 and T+2 basis. The problem is more to do with market participants’ functionality and whether they have the systems in place to connect to the CSD in a two-day settlement time.” Freeman also believes that FX could pose problems in a T+2 WWW.ASIAETRADING.COM
US$1 million for asset managers. Many market participants believe that the benefits will outweigh the negatives. For example, in its consultation paper, ASX estimated that had T+2 been in place in Australia from June 2012 to December 2013, daily cash market margins for the total market would generally have been 2030% lower, producing an estimated reduction of A$30-$40 million in total margin payments, with consequent savings in funding costs. In addition, there is also the potential for a reduction in liquid capital requirements for the industry of A$60-$120 million. The exchange also noted that the reduction in aggregate counterparty risk exposure for the CCP and resulting lower systemic risk would open the door for ASX Clear to review with the Australian Securities and Investments Commission (ASIC) and the Reserve Bank of Australia (RBA) the A$250m of paidin capital that ASX provides for clearing participant default management. This could result in ASX Clear lowering the clearing fee for cash equities. May 2014
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TECHNOLOGY By Rupert Walker
Shanghai-Hong Kong Stock Connect should encourage two-way market flows but they will remain tightly controlled. TThe most recent plans for a ‘through-train’ directly connecting stock exchange trading in Hong Kong and mainland China have raised expectations that the liberalisation of capital flows across the mainland’s borders are on an inevitable, linear trajectory. It seems that this locomotive cannot be de-railed. In a joint-announcement on 10 April 2014, the China Securities Regulatory Commission (CSRC) and the Hong Kong Securities and Futures Commission (SFC) said the Shanghai Stock Exchange (SSE) and the Stock Exchange of Hong Kong (SEHK) would launch a pilot scheme in six months that would allow investors to trade eligible shares listed on each other’s market through local brokers. The statement followed China premier Li Keqiang’s unveiling of the planned Shanghai-Hong Kong Connect at the opening ceremony of the Boao Forum earlier that day. “This marks the beginning of China’s capital market reform and one step further in liberalising the capital account,” explains Minggao Shen, head of China research at global broker Citi. It is “policy milestone in renminbi internationalisation” said Deutsche Bank market strategist, Linan Liu, in a research note on 11 April 2014, because it offers another investment channel in the offshore circulation mechanism, , and it will also boost demand for renminbi- denominated assets and promote the use of the currency for investment settlement purposes. There have been periodic discussions about mutual market connectivity since 2007’s scheme permitting mainland investors to open foreign exchange accounts at Bank of China’s Tianjin branch to trade Hong Kong stocks. It was jettisoned after three months because the Chinese
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authorities feared it was too open and difficult to control. “But this time the authorities are clearly serious,” says Shen.
Controlled two-way flows
Unlike the 2007 experiment which proscribed no restrictions on the amount of shares investors could buy, the new plan imposes aggregate as well as daily quotas (see Box) and also provides tracks for both an up-train and a down-train. In addition, investors can place their order with their local brokers who will execute the transaction directly through the exchange of the other venue. The objective is to attract two-way capital flows, boosting primary and secondary market volumes in SEHK and internationalising the insular SSE as part of the wider Shanghai Free Trade Zone scheme launched last year. The proportional impact on trading volumes should be greater on SEHK. The daily quota is about 6% of A-share average daily turnover but 20% of SEHK’s average daily turnover, according to analysts at HSBC. “Mutual market connectivity would improve two-way capital flows between the mainland and Hong Kong, and should be seen in the context of the Chinese authorities’policy of gradually internationalising the renminbi,” says Minggao. In addition, one reason for the six-month implementation delay of the plan “is to ensure that capital-flows will be two-way, which will be more likely when planned economic and domestic capital market reforms are introduced in China that would attract overseas investors,” notes Shen. However, several regulatory areas also need to be clarified, including the eligibility criteria for the Northbound flow (see Box), how the quotas will fit with the current QFII, RQFII and QDII quota systems and more certainty about the tax position for investors. As of March 2014, QFII and RQFII approvals by SAFE were US$53.6 billion and Rmb200.5 billion (US$32.1 billion) respectively, roughly 3% of domestic A-share market capitalisation of US$16-17 trillion. QDII approvals were US$86.6 billion, accounting for about 4% of the Hong Kong equity market capitalisation of HK$17 trillion (US$2.19 trillion), estimates Religare China Research. “Also of interest is how aggregate quotas will be managed, who will WWW.ASIAETRADING.COM
TECHNOLOGY
monitor the daily trading limits and how the different values of CNY [onshore renminbi] and CNH [offshore renminbi] will be reconciled,” says Jessica Morrison, head of market structure, APAC, Deutsche Bank. Nevertheless, she points out, “this development may provide ‘access’, which is the third critical practical element for greater connectivity between the Chinese and Hong Kong markets, after the provision of live pricing information through the Mutual Market Data Hub, and the linkage of settlement mechanisms at the end of last year when ChinaClear become a member of the Hong Kong Exchanges and Clearing (HKEx) central counterparty”.
Immediate impact
IIn the near-term, the markets are focusing on the A- and H-share price arbitrage. The 82 dual-listed A- and H-shares surged 170% and 100% respectively on 10 April 2014; and the shares with the most discount prior to the announcement were up 8% and 31% respectively on average, but still traded at 20% and 62% discounts, according to HSBC analysis, and the gap could narrow further. Although the Shanghai A-share index has converged to the Hang Seng Composite Large Cap Index in recent years, its forward price-earnings ratio has been consistently lower since May 2012. “The A-H premium … would disappear even before the real capital flows start to work,” says Shen. An alternative scenario is that mainland investors might prefer stocks unavailable in the domestic market or which offer growth at a cheaper valuation relative to the ChiNext board, such as AIA, Tencent, Lenova, Kingsoft, Melco or ENN Energy. “The new mechanism would give Chinese investors access to familiar names listed on the Hong Kong exchange and allow them to diversify their holdings,” says Morrison. In addition, it should attract WWW.ASIAETRADING.COM
listings to the HKEx from global companies keen to tap into the highnet-worth mainland investor base. Meanwhile, making the domestic market more accessible to international investors could lead to the inclusion of China A-shares in the MSCI emerging index. However, there remain major limitations, despite the excitement generated by the scheme. For instance the only investable assets so far are equities, and there is as yet no immediate prospect that China’s bond market will open to foreign investors. On the other hand, as Morrison points out, longer-term, as part of the fifth 12-year Plan launched in 2008, the Chinese authorities are developing a multi-layered domestic market with a wider investor base and more asset classes. And “in China, small steps like this market connectivity plan make a big difference,” says Shen. On the other hand, as Morrison points out, longer-term, as part of the fifth 12-year Plan launched in 2008, the Chinese authorities are developing a multi-layered domestic market with a wider investor base and more asset classes. And “in China, small steps like this market connectivity plan make a big difference,” says Shen.
Mutual stock market access: key contents Quotas:
Eligible shares:
Eligible investors:
Applicable rules:
Clearing:
Northbound Trading Link (HK-mainland): aggregate quota of Rmb300 billion and daily quota of Rmb13 billion. Southbound Trading Link (mainland-HK): aggregate quota of Rmb250 billion and daily quota of Rmb10.5 billion. Northbound: constituents of SSE180 Index, SSE380 Index; A and H dual-listed. Southbound: constituents of HS Composite Large & Mid Cap index; A &H dual-listed. Northbound: no requirement stated. Southbound: institutional investors; individuals with minimum Rmb500,000 in securities and cash accounts. Trading & clearing: subject to rules of market where operation takes place. Listed companies: subject to rules of market where listed. ChinaClear and HKSCC will establish a direct link and become each other’s clearing participant. May 2014
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EVENTS FISD Tokyo 2014
21 May Date: Where: Tokyo Forum Type:
FISD Sydney 2014 Date: 27 May Where: Sydney Type: Forum
Asia Pacific Trading Summit Date: 28 May Where: Hong Kong Type: Conference
International Derivatives Expo Date: 10 - 11 June Where: London Type: Conference
China Forex Investment Summit 2014 Date: 19-20 June Where: Shanghai Type: Conference
Trading Architecture Asia Date: 20-21 August Where: Hong Kong Type: Conference
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